VCA Antech, Inc. (NASDAQ:WOOF)
Stephens Fall Investment Conference Call Transcript
November 16, 2011 9:30 AM ET
Tomas Fuller – Chief Financial Officer
We are pleased to have with us today VCA Antech, a leading animal healthcare company offering vet and diagnostics services throughout their North American Hospital and laboratory network. Today with us we have got Tom Fuller who is the company’s Chief Financial Officer and then with that I will turning it over to Tom.
Thank you. So first time here at Stephens, so delighted to be here. Thank you all for joining us. Coming in, I have really bad (inaudible) I apologise. So I will stop to give you guys a chance to cruise the safe harbour statement I will reflect on.
What a terrific company we have. We have a great industry, terrific management team, we are actually coming up on our 25th Anniversary and the three founders and myself and our Chief Medical Officer are still with the company for 25 years, let me talk a lot about the business we are in and how much we love it.
Great cash flow, being down a little bit last couple of years of the economy, but we still have terrific cash flow, self-funded acquisitions, continue to grow through acquisition, and we are the market leader.
In the industry, most employees, 14,000 employees; 540 hospitals just scratching the surface of the hospital market 2% to 3% market share in laboratory services in all 50 states and Canada, not only – and then our hospitals 6.6 million visits per year from the 4.1 million pets we served. Antech Diagnostic services 16,000 hospital clients; recent acquisition of Vetstreet 4,500 subscribers. So, on every measure, we are the leader in the industry and the profession, very proud of what we have dealt over the past 20 years, employed more doctors and more specialists. All the specialists you see in human medicine dermatology, radiology, oncology, surgery you see in veterinary now, which has been a growth driver for many, many years, as we get more customers here, more medicine.
We train interns programs around the country. Vetstreet, which is our recent acquisition, has provided about 50,000 CE courses to veterinary profession over the past several years so. Leading the profession and leading the industry with, the business is doing great, great markets, 20,000 hospitals, 73 million pet owning houses or households and country owned own a pet and growing.
We are in four businesses, our first business is VCA Animal Hospitals, 540 hospitals which is about a 2% to 3% share of the market. Antech Diagnostics is the leading provider of diagnostics exclusively veterinary’s, like a lab corporate specifically to the veterinary market, 16,000 plus and most of the clients of that 22,000. So, huge share in the lab, Sound-Eklin is the leading seller of digital radiology of the sound solutions for veterinarians, instead of using film, we capture X-Ray’s electronically. And then Vetstreet, new company, terrific fit for the company, is the leading provider of educational and communication services for veterinarians.
In terms of how our company fits together, Animal hospital business, roughly two thirds of the revenue, half the operating income in Antech Diagnostics is roughly a third of the revenue and with margins twice those of the hospitals, close 40% operating margins in the labs space, about half of the operating income as well. And our hospitals account for about 10% of the labs revenue. So, 90% of the labs comes from non VCA hospitals.
Those of you that are healthcare investors, or know a little bit about healthcare, or all things you hate about healthcare contracting, reimbursement, malpractice, don’t exist. We are fee for service, 95% of our revenue in our hospitals comes at the point of service, so which is good news compared to healthcare, but we have seen some pressure in the past couple of years with the consumer and the economy, but it should be stabilizing and I see some improvement up late.
Our first business Antech Diagnostics, that’s where we are the leading provider of outside diagnostic services for veterinarians. The great thing about the model is, the infrastructure is in place, very high fixed costs, varied entry network of moving 30,000 to 40,000 to 45,000 samples through the network a day, which is a very high fixed cost, but also very high income on margin businesses. So that incremental extra sample chemistries, picked from hospitals from as high as 60%, 65%, 70% margin businesses, which is why we start terrific margin expansion path and some of that are margin pressure past couple of years, but there were instructions in place. We are the largest provider of lab services for veterinarians to do a great job. We have 80 specialists which consult and help educate doctors and help doctors educate client on the benefits of lab testing. So with that network, we serve all 50 states plus Canada.
People look at the map and they see kind of capacity utilization issue that’s really most of the work is done through New York and Irvine with Chicago, Atlanta, Tennessee for our FedEx business, most of the march in the map of the triangle we put staff [ph] labs, which are for quick turnaround. So in Boston for example, we pick up between 12 and 1 in the afternoon for all the morning visits, to the simple chemistry haematology, locally get results back to the doctor by 5 or 6 that evening, we pick up again at night flights to New York to resolve (inaudible) so lab is to compete against the point-of-care testing at much higher quality. In many cases, similar or better priced than incremental testing, and much of that (inaudible) veterinarians. So vets do test it inside and outside and we like to think that they give us a larger outside work.
Looking back over five years, and you can see growth rates came down starting in 2008 from low mid teens to mid – with pressure from the economy going down with 2%, 0%. The real story here is how will we turn margins, rough 400 basis points off peak margin of 37% in 2010, but still very healthy – still very health almost 40% margin. Last year and then first nine months of this year, margin has gone 80 basis points on 2% positives comps and in the third quarter, actually the quarter just released, we saw 2.2% growth and margins down 20 basis point, all due to – much of the 80 basis point actually nine-month number, primarily due to increase in energy costs, which are fairly large cost (inaudible) move samples throughout the country Delta Shuttle, FedEx picking up samples of 16,000 hospitals. Energy prices, did affect us, but now we are in position I think that with the adjustments for the first quarter of 20 basis point down, most due to energies, we are holding margin at 2% level, now the hope is as we continue to see revenue growth in the future, hopefully, as we get break in the economy, we are in position to see really good operating leverage in margins expanding in the future as the revenue does grow, above that 2% hopefully.
A VCA Animal hospital is the largest network of free standing hospitals in the country, 6.6 million annual visits a year. (inaudible) employer of choice, we employee the most doctors, we employee the most specialist, we have internship programs that we train 103 doctors in 23 programs around the country.
We have a map, concentrations on west coast, east coast, mid west, as we are going forward you will see continued acquisitions in existing market, 95% percent of our clients come in a five mile radius, so that’s really not a lot of (inaudible) what we can buy to build up a network without cannibalizing our existing base.
We do grow through acquisition, we bought individual hospitals, the great thing about our model is we are a self-fund acquisitions, we are internally doing a cash flow pay 5, 6 times EBITDA, which works at about one time sales post acquisition EBITDA margins of somewhere 20%, 25% range, relatively soon after the acquisition.
A five-year history for the hospitals will slow our growth rate mid 5s back in 2006, 2007, our growth rates dropping actually, negative starting in 2009, which is the last two years down 6% combined cost for last two years 2009, 2010. So in spite of the macro environment, I think we have done it, held up phenomenally well. And the margins down a 260 basis points, so generally a good job holding margins, cutting cost, cutting labor costs and focusing on, just hold margins as we continue to try to get good growth when the economy continues to improve. Our nine month numbers were actually down 1.2% from the nine month of the third quarter, we actually saw our first positive growth 1% and they are just, it comes from the hospital divisions of the third quarter this year. First positive comp we have seen I think in eight or nine quarters and then operating margins down about 60 basis points, as we continue to leverage.
(inaudible) little encouragement and you can see great growth rates in 2007 and starting with the macro environment, growth rates falling, hospitals going negative but the good news is that it appears to be pretty stable and actually, as I said first positive comp in third quarter of this year, so. I am not sure that’s a trend, but it’s clearly the positives in the third quarter, we have also believed that we are at the bottom and really bouncing among the bottom on course to see future growth, we are hoping to see that continue as a trend.
Sound-Eklin, no slide for Sound-Eklin but it is the leading cell ultrasound and digital radiology solutions for veterinarians and that’s our last business, we are (inaudible) quite about in August of this year, is the largest provider of online communications and education for that manner [ph]. I think the profession, we love this business, probably I think, we love the most of the culture. Understand when business is great, what they are doing is something that sorely needed in the vet community really doing a better job of communicating with clients over the next 5 years, 10 years, this will be a critical to the veterinary profession’s success and in being in that space is great.
So, I think that business alone should do well, but beyond that the culture of the company is that, that they are really great fit with our culture and that our business always going to be part of that new community, leading the veterinary community and vets too small, but identical, so their goal is to help veterinarians, help veterinarians and not to peak [ph] up the veterinarian particularly in the online, specialists (inaudible)
Four businesses they are in, they are the leading provider of communication services for veterinary, that’s subscription model where they have 4500 veterinary hospital subscribers, where they provide email services, 60 million emails to pet owners they have sent out. So they help doctors communicate with their clients. They have websites, they have pet portals where you can bring up your pet’s page on your veterinarian’s website. Get pet information, get vaccination history, get health history, get age specific, breed specific information for your pet which ultimately drives traffic to the hospital through more awareness and do much better job of communicating to clients on reminders to come and meet, where subscriptions refill products.
The second business is, the analytics business, we are using that wealth of data they have collected from hospitals, they de-identify, they aggregate and provide analytics to that pharma [ph] companies giving them detailed market share data that they have never seen before, so lost accounts, staged accounts, new accounts, down to the client specific, – they never the pharma company specific data that they aggregate and you can show trends in their markets, as compared to competitors in different markets. New sales, repeat sales, showing how their sale is changing like the two months’ supply to six months supply. So, great data for the pharma companies which they pay for.
Their third business is Vetlearn, which when it actually started they were the leading print publisher of information for that profession, it was digitized (inaudible) provide over 50,000 continued education courses for veterinary professionals and in the third business which is just getting right now is, we would hopefully be the cut within the four veterinarians, phenomenal content, well betted [ph] professional consistence, like anything on the web, there is a large variation of quality. Our website will be hopefully the leading provider of vet information for consumers and then take that traffic and then use it to go into consumer space and if not complete (inaudible) expresses, 2,000 pet meds and we will allow veterinarians to be in that space cost effectively and protect that revenue and protect those clients on a cost effective, and hoping to do a better job in maintaining that revenue and driving traffic through repeat business, so it is a great business, great fit for VCA.
I put some of these slides, but I am not going to, – and I am going to kind of take a pause, I am letting you see yourself in these slides (inaudible) or taking your dog on vacation. But really that’s our business and why after 25 years I am seeing the last couple of years little tougher, but this has (inaudible) down 6% loss still growing. While costs are improving but our business is based on the foundation of people’s bondage with their pet, we don’t see that changing, so we are extremely saddened. Our nine month numbers, still getting growth through, lab growth through, after acquisitions, we see positive top line on the revenue side, margins down slightly and for the third quarter earnings per share, just earnings per share flat $0.37 year-over-year and down slightly here today.
Balance sheet is in great shape, we have refinanced our debt in August in conjunction with acquiring Vetstreet, we increased our senior credit facility $100 million to $581 million, and so during lowered the rate from (inaudible) plus two in the quarter to (inaudible) plus 1.75, so we cut 50 basis points off. Spread that savings offset by additional $100 million of debt, about 2.2 times EBITDA, so we are comfortably leveraged and great cash flow, great free cash flow to self fund acquisitions and ultimate service with that, so we are in a great business.
We are coming about 25th year and have a proven model, management has done a phenomenal job of holding margin in a tough environment. We are seeing improvements in growth rates and we’re continuing to invest in hospitals, strategic investments in Vetstreet and in a great position going forward. So, short presentation there is nine minutes for Q&A.
I think it’s almost like on the downside, a little bit of everything, I think the economy is clearly, if not improving, seeing more stability. I think that we are expected a lot by consumer confidence, I think not just for consumer for the veterinarians well. The good news is we are (inaudible), but the bad news is we are subjected to the consumer and our doctors are basically applying more medicine and they would never think of themselves as salesmen, but when you offer additional service, additional procedure that you need to get past the money barrier sometimes and I think the economy is tough, and never mind we are left out to see and provide more management, I think we’re seeing some maybe a little bit of relief in that area.
We are also have been, starting couple of years ago, we focused much more on internet marketing for client acquisition, with additional way (inaudible) the Yellow Page is now being replaced with the internet. We spent a lot of time and energy on internet marketing page search, organic search which takes time to move up, takes time to get the model right, and there is also the repeat business, so we are starting to see I think a client base building and seen our repeat visits grow. A little bit of economy, a little bit of stuff things we are doing specifically.
Now the question is how sustainable is that? And it’s hard to say the answer to you, but I think it clearly gives us confidence that we are certainly appear to be at the bottom and bouncing on the ball and hopefully going up the bottom. So in best case we’ll see continued improvement, in worst case hopefully we’ll stay somewhere in that range.
What (inaudible) kind of normalized organic growth rate in terms of (inaudible) inventory for us. What would you mix between number of pets, price as we have got?
We don’t have guidance out there. Typically, we don’t give long term, but since you asked, I’ll venture, it’s probably somewhere in the 6 to 8% range. Was growing low teens, 12 to 13%, three, four years ago, those days are probably gone. But the market, it’s still – which is why we’re still (inaudible) the market is still immature, a lot of pets (inaudible) getting it still. A lot of that means, you could be doing testing (inaudible) typically younger vets doing more tests than the older vets with how to retrain.
If it’s 8% my guess is that it we will be somewhere half volume, half price. And then we have seen in the past couple of years negative mix in (inaudible) doctors trading down to cheaper tests, both panels, save a few bucks, or things like biopsies which are more expensive. If you are not going to do the surgery, why bother doing the biopsy. So, I think going forward, couple of percent volume, couple of percent pricing and few percent mix that would get us in that 6 to 8% range.
(inaudible) take us into growth opportunities if there are (inaudible) perspective.
Yes, there are three places that generate revenue. They generate in those subscription model of vet names which we grow, they are the leader by far, 45 plus 100 subscribers, 200 bucks a month. That business will grow through more subscribers, but then also selling those subscribers more add-on additional service itself. For that 200 bucks a month you get a website, you get free e-mails, you get a portal. What we will also study in is doing hard post card mailings where I am done for that, pet id cards, so your veterinary can give you a little drivers license to your pet [inaudible[.
Such a nice little give away. So it’s different revenue sources there. Analytics, they sell the data to more hospitals, more hospital subscriber means more data, which (inaudible) diminishing returns unless you can go for it, but there is a potential there to increase the billing, but more importantly because we have the mailing addresses, e-mail and postal addresses for all of our 4500 doctor client, allows us to sit in the middle of mail mergers if the manufacturer wants direct mailing, which is great for them because that’s much more targeted.
Consumers actually use their product, or use competitor’s product, we will do that mailing forward and generate revenue. We never give the pharma company the hospital specific data, but if the hospital agrees to the mailing, we will do that for them. So, confidentiality is critical for us.
And the third business, potentially has the highest growth potential for consumer is once you drive your ultimate goal is to use the (inaudible) traffic to the sites, go to place, help you with the landing page for searches, and then use that traffic to sell products, both for people searching but also we are also through the vet [ph], so we will be the front end for veterinary hospitals online sales for which we take a fee for. That business could be explosive, but it’s surely at this point.
So, two other business lines are very stable, repetitive revenue, competitive revenue. One is – could be huge, but it’s too early to say.
We are preparing to launch sometime this year, my best guess is hopefully by the end of this year and then there will be a growth publishing after that?
So, who is going to help out that part?
We are unique because we are not trying to copy in the rev D, where the camera express model, it really come from animal hospitals using animals for climbs, to using our consumer site for their sales, we have been natural client base to leverage.
Down, historically somewhere in the 16, 17, 18%. Not specific to (inaudible) in the industry, it’s a fairly low-paid profession for life style labor of law, typical that means 65, 75, or 80,000 a year. Dominated by women, we typically are second income earnings, very portable profession, if you want to move from New York to Denver, you would get a job tomorrow. So because of that we are seeing a lot of turnover in the past, not just us, but the profession was down. I think what was a second income earner is now first income earner because that is now unstable. House in-charge moves, so the mobility and the velocity is moving around as much, much less of turnovers. We keep a track, we have an open tradition where people like to hire, both in real and nominal terms (inaudible) we are seeing a lot of stability.
I think what they are doing is – that’s probably a cross function of other businesses, their lab business and their agriculture and their products. So, makes sense for them, it is not sure if you want to go.
Is there a breakout session as well.
Yes, the breakout will be in another (inaudible) room, last one on the right.
One more. So, (inaudible) where do you think the most pressure come from?
You know this Banfield, which is the leader in the different model, (inaudible) less security certainly they are not thinking it’s a huge factor. If there is anything that grow in the market and it’s just cannibalizing it by taking new entrances to the market. Online retail continues to be hitting our retail sales, which hopefully that street will help us in the profession to spend enough space (inaudible). But the most part, hospitals have been there forever, we do more and more every year and that’s continued to grow.
Yes, it’s a big country, so the chance of being near Banfield is small to begin with. As we said 95% of our clients come in far more radius, so, it’s potentially not close to Banfield. Our close advantage, we don’t typically see a huge (inaudible) don’t see a huge impact. Maybe a small and new people coming to me in may end up there versus small share shifts, but (inaudible). Well, thank you all.
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