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IDEXX Laboratories, Inc. (NASDAQ:IDXX)

Q1 2012 Earnings Conference Call

April 20, 2012 9:00 AM ET

Executives

Jonathan Ayers - Chairman, President & CEO

Merilee Raines - Corporate VP, CFO & Treasurer

Pete Levine - Director, Investor Relations.

Analysts

David Clair - Piper Jaffray

Kristina Blaschek - William Blair & Company

Miroslava Minkova - Leerink Swann

Ross Taylor - C.L. King & Associates, Inc

Jonathan Block – SunTrust Robinson Humphrey

Erin Wilson - Bank of America-Merrill Lynch

Nicholas Jansen - Raymond James & Associates

Ben Haynor - Feltl and Company

Mitra Ramgopal - Sidoti & Company LLC

Operator

Welcome to the IDEXX Laboratories First Quarter 2012 Earnings Conference Call. As a reminder, today’s conference is being recorded. Participating in the call this morning are Jon Ayers, Chief Executive Officer; Merilee Raines, Chief Financial Officer; and Pete Levine, Director, Investor Relations.

IDEXX would like to prefix the discussion today with a caution regarding forward-looking statements. Listeners are reminded that statements that members of IDEXX management may make on this call regarding management’s future expectations and plans and IDEXX’s future prospects constitute forward-looking statements for purposes of the Private Securities Litigation Reform Act of 1995.

Forward-looking statements can be identified by the use of words such as expects, may, anticipates, intends, would, will, plan, believes, estimates, should and similar words and expressions. Such statements include, but are not limited to statements regarding management’s expectations for financial results for future periods.

Listeners are reminded that actual results could differ materially from management’s expectations. Factors that could cause or contribute to such differences are described in IDEXX’s annual report on Form 10-K for the year ended December 31, 2011in the section captioned risk factors which are on file with the SEC and also available on IDEXX’s website idexx.com. In addition, any forward-looking statements represent IDEXX’s estimates only as of today and should not be relied upon as representing the company’s estimates as of any subsequent date.

The company disclaims any obligation to update or revise any forward-looking statements in the future even if its estimates or expectations change. Also during this call, we will be discussing certain financial measures not prepared in accordance with Generally Accepted Accounting Principles or GAAP. A definition of these non-GAAP financial measures is provided in our earnings release which can be found on our website idexx.com.

Finally, we plan to end today’s call by 10 am Eastern. In order to allow, broad participation in the Q&A. We ask that each participant limit his or her questions to one with one follow-up as necessary. We do appreciate you may have additional questions, so please free to back into the queue and if time permits we will be more than happy to take your additional questions.

I’d now like to turn the conference over to Merilee Raines. Please go ahead.

Merilee Raines

Good morning and thanks very much for joining our call today. As reported in our earnings release this morning, our first quarter revenues were $322.7 million, yielding organic growth of 10%. And diluted earnings per share were $0.72, a year-to-year increase of 16%.

Overall, this was in line quarter for us with financial results generally on par with our thinking at the time of our January earnings call. While actual currency rates for the quarter versus our forecasted rates in January contributed about $3.5 million to reported revenues. The impact to earnings per share was immaterial.

Taking a quick look at the economic backdrop, the economic environment is a backdrop for our Companion Animal first quarter performance. First, starting with the U.S. Q1 patient visit growth from a subset of nearly 500 practices using our Cornerstone Practice Management System, was roughly 5%. Practice revenues grew by roughly 7%. Both of these metrics show a meaningful increase over the fourth quarter growth in patient visits of 1% and practice revenues of about 3.5%.

Well, some of this increase maybe due to the mild weather experienced over good portion of the country, we are encouraged that the improving trend we saw over the back half of 2011 continues into 2012, even if the growth rates do not sustain at the levels experienced in the first quarter. In contrast to the improving U.S. environment, in Europe we saw the organic growth rate for our Companion Animal businesses decreased to 5% as compared to 8% growth experienced in the fourth quarter last year.

Performance varies widely in the region with countries such as Germany and France showing strong performance and performance in countries such as Italy and Spain, reflecting the impact of their challenging fiscal situation. On balance we continue to believe that our businesses will benefit modestly from an improvement in the macro environment over the course of 2012 with 1% to 2% volume growth attributable to a more robust economy.

Now for some further detail on first quarter revenue performance of some of our businesses. VetLab Instrument and Consumable revenue of a $102 million, grew 9% organically. Sales of instruments were $20.5 million, also 9% organic growth. Our worldwide chemistry placements were up 20%, with solid performance by both Catalyst and VetTest.

This quarter’s growth is aided by the relatively easy compare we had versus the placements in the first quarter of 2011, prior to the launch of our protocol based rebate programs in the U.S., in the third quarter of 2011. As you recall, we saw an acceleration in the rate of placements in the U.S. in the back half of the year, due to the success of this marketing program.

We also saw strong performance in our hematology placements with a combined placement growth of 25%. ProCyte remains an attractive choice for our larger customers and sales of new and recertified LaserCytes are continuing to do well in accounts with lower volumes.

Our Asia Pacific region had over 30% growth in total instrument placements across the VetLab suite in the first quarter. And we believe the region presents an opportunity for both Catalysts and ProCyte. In Japan we placed our first ProCyte unit in Q1, a quarter ahead of our expected launch schedule.

Consumable revenues of $69.8 million grew organically 10% or 9% when further normalized for changes in distributor inventory levels. This is inline with our 2011 normalized growth. And our projections for a full-year 2012 normalized organic growth. Consumable growth is driven by volume growth from our increasing installed base of instruments, increased testing as current IDEXX customers upgrade their in-clinic lab with Catalyst and ProCyte, an increased same-store testing as a result of improving patient visit volume.

For little more color on a couple of these consumable growth drivers. First, in Q1 more than 35% of our Catalysts and ProCyte placements were to new and competitive accounts. Additionally, we continue to see an uplift in consumable usage when an existing IDEXX customer purchases a catalyst and/or a ProCyte.

Our first quarter rapid assay sales of $43.7 million grew organically 13%, when normalized for changes in distributor inventory levels, revenues grew by 10%. About half of our normalized growth is attributable to higher price realization on U.S. Canine products following the list price increase that went into effect last October. We expect this price favorability to continue through the second and third quarters, although at a slightly lower level, as the first quarter also benefited from changes to seasonal marketing programs that resulted in somewhat lower discounts.

Other key contributors to our first quarter growth included volume growth in our Canine Vector-borne Disease test as well as a successful ramp of our SNAP Feline Pancreatitis test, which was launched in the second quarter of 2011. Our expectation for 2012 is to see normalized organic growth rates in the range of 4% to 6% for the rapid assay business, which represents some upside potential from the 4% we were expecting at the start of the year.

This improved outlook is reflective of somewhat stronger growth in Canine volume in the first quarter. We expect that growth rates will be higher in the first half and then moderate as we anniversary price increases in 2011 product launches. Our reference laboratory and consulting services business with revenues of $101.9 million, achieved reported growth of just over 14% in the first quarter, which translated to a 11% organic growth.

Growth was strong across the Americas and Asia Pacific regions, however we saw a bit of softening in the European market during the quarter with lower than expected growth in lab volume, as so we will be watching this as we move forward. The majority of our organic growth came from higher test volumes due to the addition of new customers as well as an improvement in same-store sales in the U.S.

Compared to the first quarter of 2011, a lower portion of our growth came from realized price during the quarter. This dynamic is the result of our increasing success over time in selling our lab services in conjunction which our in-clinic diagnostic offerings. In such situations discounts on laboratory services are used by our customers to purchase our capital equipment, are positive for us and that the discounts are reinvested in IDEXX, it is also positive for our customers, as when they use our in-house equipment in conjunction with our reference lab, they benefit from the deeper insights that come from an integrated approach to diagnostic testing.

Acquisitions contributed just under 4% to our 14% reported labs and consulting services growth in the quarter. We were pleased with the performance of the RADIL and ALX acquisitions that were completed late in the fourth quarter, integration of these businesses has gone very well. In addition to these acquired labs we opened a new day lab in St. Louis, Missouri during the quarter. This brings our total global network to 57 labs.

We are confirming our 10% organic growth estimate for labs and consulting services for 2012 with slightly higher volume growth being offset by lower price realization than what we anticipated in January. Our practice management and digital imaging systems with revenues of $20.6 million grew organically 8% in the first quarter consistent with our expectations. Customers continue to appreciate the benefits of our integrated solutions and product line enhancements, and this leads us to continue to expect organic growth in high-single to low-double digit range for 2012.

Our livestock and poultry diagnostic revenues declined 6% organically to $22.2 million in the first quarter. This decrease was driven in part by the anticipated events we have mentioned previously including a decline in BSE revenues due to the change in the EU testing regulation and the step down in testing from an eradication program in Germany. We have also seen somewhat lower than anticipated ramp of new product revenues including our first SNAP test for use by the Vet at the farm and our bovine pregnancy test. Both of these tests involved changes to current testing protocols and so the adoption curve can be a bit difficult to predict. We now project that organic growth for this business in 2012 will be flat to low single-digit down from our projection in January of mid-to-low single-digit growth.

Our Water business grew 4% organically to $19.6 million. This growth was inline with our thinking and is consistent with our expectations for full-year organic growth. Turning to the rest of the P&L gross margin at 54% and operating expenses at 35% were roughly inline with our thinking in January. Our effective tax rate of 31.7% and our share count were also inline with our expectations. As for the balance sheet and cash flow, we ended the quarter with $185 million of cash and $257 million of debt for a net debt position of $72 million. Our inventory balance of $141 million was approximately $8 million higher than the level at the end of the fourth quarter due primarily to timing of inventories associated with certain of our instrument platforms. We expect these levels to come down over the next couple of quarters. DSO at 43 days remains in good shape. Our free cash flow was $70 million or 41% of net income.

As noted in the past free cash flow tends to be lower in the first quarter due to regularly occurring events such as annual performance based compensation payments and increases in receivables related to the ramp of some of our more seasonal product lines. Looking forward, we project full-year revenues of $1.31 billion to $1.32 billion an increase of about $12 million to the low and high ends of the our range relative to the guidance provided at the time of our January earnings call, which is the result of the favorable impact of currency.

Our revenue guidance implies both reported and organic growth of 8% to 9%, as a 1% favorable impact due to acquisitions offsets a 1% negative impact of currency. Organic growth is unchanged relative to our outlook in January, well our current assumption of 1% to 2% increase in volume growth due to a more robust economy is slightly improved from our expectation at the time of our January earnings call. We now expect a somewhat lower contribution to growth from price realization. We continue to project full-year gross margin to be approximately 54% for the year about 100 basis points above the full-year 2011 rate and we expect gross margin in the second quarter to be approximately 100 basis points higher than our full-year average due to the seasonality of our Vector-borne disease testing business.

We continue to project operating expenses to be between 34% and 35% of revenue for the full-year all leading to an operating margin between 19% and 20% for the year. This would represent a roughly 50 basis point improvement from last year when 2011 is adjusted for the favorable impact of the pharma payments that we received that totaled about $4 million. We expect the tax rate to be between 31.5% to 32% for the full-year which is unchanged from our previous guidance. As a reminder our projected tax rate is approximately 50 to 100 basis points higher than 2011 primarily due to the fact that we have non-incorporated the benefit of the Federal R&D tax credit into our 2012 rate.

All of this leads us to 2012 earnings per share guidance of 307 to 312, the increase of $0.02 to the high-end of our range reflects the favorable impact of currency relative to the rates assumed at the time of our January earnings call. We are increasing the lower end of our guidance by $0.03 which reflects the currency impact that I just mentioned as well an additional penny from business performance. We continue to project free cash flow to be approximately 110% of net income.

Thanks. And now, I would like to turn over to Jon, for some further comments.

Jonathan Ayers

Okay. Thank you Merilee. I’ll provide a couple of updates on the business and the progress of some of our innovations, then I wanted to turn to an important update on our U.S. distribution strategy and the FTC investigation, at that time we’ll open the call to Q&A.

Our business and the execution of our strategy is on track. The strong Q1 organic growth of 10% was gratifying and we’re pleased with the apparent pick-up in the U.S. market even as Europe slows. However our outlook for the year, but for currency assumption remains essentially unchanged at 8% to 9% organic growth. This outlook considers the potential transitory benefit of the favorable weather compared in the U.S. in Q1 the uncertainty generally in Europe and a strong Asia and Latin America, and of course our continued success in bringing innovations to our market globally.

In the area of new products, we were pleased to receive USDA approval and to announce the launch earlier this week of our newest SNAP kit for canine and Vector-borne disease SNAP 4Dx Plus. SNAP 4Dx Plus is able to detect a fifth and sixth tick-borne disease adding to the four Vector-borne diseases including Heartworm that we already cover with SNAP 4Dx. We will be offering SNAP 4Dx Plus in the place of it predecessor 4Dx and will not be charging anymore for the upgrade in capability from four to six Vector-borne disease tests in one kit. This will be true for both the in-house version, the SNAP kit, and our lab offering of the same test.

We’re also pleased that we’ve launched a valuable new test for our highly successful Catalyst Dx Chemistry Analyzer, Phenobarbital, a standard therapy used to control seizures in dogs. Virtually, every practice has patients on Phenobarbital and testing is critical to determine if the dosage is within the therapeutic range for that patient. So, in-house Phenobarbital top test is a valuable application of a real-time diagnostic result during the appointment. The IDEXX Catalyst Dx Analyzer is the only point-of-care solution that is able to test for Phenobarbital levels, yet another differentiator.

We’ve talked in the recent past about our strategy to support the veterinary and communicating the value of pet healthcare and regular visits with their clients, the pet owner. In that vein, we’ve launched in the past six months the pet health network and our iPad app that allows practice show deteriorated graph declines in an easy and real-time way during patient visits. These offerings have been extremely well received by our customers.

In Q2, we’re introducing two more offerings as part of that strategy. First, we’ve partnered closely with Purina PetCare Company's PurinaCare, a leader in pet wellness plans to co-promote their offering with our customers. Adoption of pet wellness plans is another way to engage pet owners resulting in more regular visits and more frequent and approximate users of diagnostic testing as part of preventative care, not to mention complains with follow-on on any conditions identified as part of a preventative care visit.

Second, we’ll be introducing a very significant advancement in the way our customers can access the results of our diagnostic offerings both from the reference lab and the in-house lab, and can share those results in an intuitive way with pet owners. We call this advancement VetConnect PLUS, leveraging over 10,000 customers who regularly log on to our VetConnect website today for reference lab results.

We’ve developed VetConnect PLUS using Cloud technology to present the results of blood work run either at our reference lab or our in-house equipment, side-by-side and over time to facilitate data comparisons and the visibility of trends. This results can be viewed either on a web browser or in an iPad or tablet and are available real-time as soon as new results on patients are available.

The benefits are multifold. First, the ability to see the current blood work parameters in the context of all historical runs thus adding the medical insights that come from trending, say in the same way that our P&L is far more interesting when compared to prior P&Ls. VetConnect PLUS will be able to easily and intuitively grab any particular parameter over time to aiding this insight.

Second, all the results that will run in our reference lab and on our in-house equipment will be available for this historical trending. Third, on an iPad, these results will be available real-time within seconds on anything run, including on our in-house equipment. We’re leveraging the SmartService platform to enable this capability.

Fourth, the iPad or tablet modality is highly useful for sharing the results with pet owners, and of course real-time if run on our in-house equipment, and emailing these results to the pet family directly from the iPad. Finally, the same analytics capability on all blood work results will be integrated in the Cornerstone’s Electronic Medical Record System.

We think that VetConnect PLUS will be a pretty big differentiator for both our in-house and reference lab offering, and we’re offering the core Cloud capability free to all of our customers of our diagnostic offerings, of course they’ve got to business their own iPads.

VetConnect PLUS will become available to our customers in the U.S. at the end of the quarter although we already have several dozen customers using it and rating about it in data form.

Finally, I wanted to give an update on our U.S. distributor strategy and the FTC investigation. Through a series of discussions with the FTC, we’ve gained an appreciation of the nature of the FTC’s concerns, which relate to our agreements with our three largest U.S. distributors. We’ve also taken the opportunity to conduct a close review of the effectiveness of our U.S. Companion Animal Distribution Strategy for instrument consumables and rapid assay kits. We’ve been thinking about steps we could take that would allow us to avoid potential litigation that would make sense for our business.

After this analysis, we’ve decided to announce a prospective change to our distribution strategy, which we think will have both business benefits and address the FTC concerns as we now understand them. This refinement will focus our distribution and investments and free up somewhere between $6 million and $12 million in channel cost that can and will be redirected to augment our sales, marketing, distribution and customer support investments to support our continued growth.

Under this refinement of our longstanding U.S. distributor strategy, we expect one of our three major U.S. distributors, those are Butler Schein Animal Health, Webster, which is part of Patterson Dental and MWI will move from being a value-added strategic partner as they all free currently are to more of a generalist distributor. This generalist will perform standard and customer services for IDEXX such as processing orders from veterinary customers and logistical support of shipping IDEXX products. This generalist would not be down by our competitive products policy, and thus we’d expect it to carry competitive products without restrictions along with our IDEXX kits and consumables.

Finally, the generalist distributor will have amended terms with IDEXX that will reflect its status having been changed from value-added, and we’d expect this would of course result in a lower distributor margin.

The funding that accrues to IDEXX, as a result of this change will be redeployed to incremental sales and marketing investments consistent with our longstanding strategy of using a combination of both IDEXX direct – IDEXX sales and distribution resources to serve our customers.

We would anticipate that the remaining value-added distributors, likely four of the total five we now have in total, including two smaller distributors will continue on terms generally as they’re today and would continue to be subject to what we define as our competitive products policy. In this way, we’ll continue to treat these value-added distributors as extension of our sales force appraises it continues to work well for IDEXX in the U.S. market.

We anticipate that these new arrangements would be negotiated over the next several months and would take affect no later than the new contract year, which begins January 1st, 2013 and even earlier if one of the distributors wish to change the generalist before the expiration of their annual contract with IDEXX.

We do not know at this time, which distributor would change from value-added to generalist as this one involved discussions with each of our distributors and of course their analysis of operating as either IDEXX value-added or generalist also carrying competitive products. We also do not know how longer it will take to finalize the new arrangements. In the meantime, we’ll operate the business as usual honoring the current distributor contracts.

We do not believe these changes have any materially impact on our strategic plan over the next five years. In terms of how much IDEXX revenue would come under the generalist arrangement when we make this refinement to our distribution strategy, sales – sales to the U.S. distributors’ account for about 20% of total IDEXX revenue. Depending on a number of factors we think somewhere between 25% and 40% or 5% to 8% of our total IDEXX revenues could come under the generalist arrangement.

Importantly, we believe this revised distribution arrangement satisfies the FTC concerns as we understand them, with at least one national distributor as a generalist also carrying competitive products. Our understanding is that the FTC has put their processes on hold as we carryout this plan to its conclusion in the new arrangement. Following the execution of a modified agreement that addresses the FTC’s concerns as we understand them, we anticipate the FTC would seek to formalize the modified arrangement in the form of a consent order.

Of course we don’t speak for the FTC and can’t guarantee any particular results, but we’ve enough confidence in our prospects or success with this approach that we’re setting this process in motion. We still believe we’ve a very strong legal position for all the reasons that we’ve discussed in the past. However, we always have to weigh the prospects of lengthy and expensive litigation that would involve the whole industry against the available alternatives.

In summary, we believe this plan makes a lot of sense for our business and our veterinary customers and also helps us to avoid litigation with the FTC.

So, before I open the call to Q&A, we’ve an economic environment with modest economic growth and a competitive environment in the diagnostic space that is intensive as ever. We also believe that we're at a crossroads in the pet healthcare market, as vets are starting to adopt a series of practices many enabled by our technological innovations that better educate and engage the pet owner resulting in a gradual increase in visits, independent of the economy and in the adoption of appropriate preventative and chronic care along with acute care that will drive growth and utilization of our diagnostic and information technology offerings.

Leading edge practices are already demonstrating the potential of the pet owner to respond to this increase in communication. Pet owners thus better appreciate the relevance of appropriate veterinary care and the impact it has on the health, well being and longevity of their four legged family members. This trend will drive sustained growth for the veterinary practice and for IDEXX products and services for many years to come.

So with those opening comments, Merilee and I’d like to open the call to Q&A.

Question-and-Answer Session

Operator

Certainly. (Operator Instructions) One moment please for the first question. And we’ll go first to the line of David Clair with Piper Jaffray. Your line is open.

David Clair - Piper Jaffray

Hi. Good morning, everybody.

Jonathan Ayers

Good morning.

Merilee Raines

Good morning.

David Clair - Piper Jaffray

I just wanted to maybe get a couple of more details on the potential non-exclusive arrangement. Do you think there is a risk that, that potentially more than one of your distributors want to switch to the new model?

Jonathan Ayers

David, thank you for the question. Of course, we can't predict how our distributors would change -- will react and we've begun discussions with them. But they have always had a chance to do alternative arrangements with IDEXX and that’s really been part of our contracts and I think we had excellent relationships with distributors and they have had excellent relationships with us as value added distributors and the margins that, that generates for them. So we think it would be unlikely, but I think they each have to weigh the differences between carrying competitor product and being a value added distributor for IDEXX with a higher margin.

David Clair - Piper Jaffray

Okay. And then just real quick on the arrangement with Purina when – can you give us some details and I guess how you think this is going to kind of evolve and what kind of financial arrangement it represents for IDEXX?

Jonathan Ayers

Yes. We’re very excited about the partnership with Purina. We’ve actually – its been in the works for quite a bit of time. We worked very closely with Purina to design if you will template preventative care plans that include the appropriate diagnostics. We do have some benefit when we bring a customer to the equation, but we think the larger benefit is that this is really part of a series of steps that helps customers increase preventative care with veterinarians and with pet owners. And of course the increase of preventative care that includes the appropriate preventative diagnostics will increase our volume.

So we think this is a tool, a value added tool that our sales force can bring to customers. It is a type of thing that is being talked about in the industry and PurinaCare is we think the way out of head in having designed the plan. So we’re very excited about that partnership. But I would just say its one of many marketing efforts that we’re working on to grow the veterinary industry. Nothing happens overnight in the veterinary industry, but tends do have staying power and long-term impacts, and I would say that this would be one of them.

David Clair - Piper Jaffray

And then just real quick on guidance, it sounds like volume is a little bit better than what was originally expected, but pricing sounds like it could be a little bit lower than what you had expected. What's changed on the pricing front since the last update?

Merilee Raines

David, as I mentioned in my comments, we're seeing a little bit less price realization in the lab business than what we had expected. I also think in the VetLab business we've seen lower pricing somewhat on instruments and I also did mention in the last call that we were expecting that we would see as a result of protocol based rebate programs a bit of headwind on consumable pricing as well just because of the nature of that program also impacts consumable pricing as well as instrument pricing. So I think those would be the primary areas.

David Clair - Piper Jaffray

You think on the lab side that that’s more, does that reflect increased competition?

Merilee Raines

I really think it is a function of the programs that we've been executing in the marketplace over the last couple of years now and we’re seeing the cumulative impact of that where the customers enter into these programs and the rebates are that they earn over a period of time are applied against in many cases in fact the majority of cases against capital equipment purchases from IDEXX so that really is the main driver. The competition has always been very aggressive in that market place and I don’t think that, that the pricing dynamic in regard to competition is particularly different, that’s always been pretty aggressive.

David Clair - Piper Jaffray

Okay, thanks. Congrats on the quarter.

Jonathan Ayers

Thank you.

Operator

Thank you. Our next question comes from the line of Ryan Daniels with William Blair. Your line is open.

Kristina Blaschek - William Blair & Company

Good morning, its Kristina for Ryan today. As it relates to the refinement of the distribution agreements if none of the distributors actually want to change to a generalist arrangement, can you actually push that change?

Jonathan Ayers

Yeah, we’re going to -- we will make a change to one of the three. We're very committed to doing so Kristina. We’ll go through a process to select the distributors that best meet our needs as strategic distributors based on their track record commitment to the IDEXX line, other factors that we deem relevant. We certainly plan to conduct a fair and transparent process with our distributors in making these arrangement and evaluations.

Kristina Blaschek - William Blair & Company

Okay, thanks for the color. And then Jon, I guess turning to a different topic; one of the big trends we a heard a lot about at NAVC this year was the movement towards wellness plans. Two questions here. First, are you able to tie end-market hospital performance to these plans at all, meaning any data showing that they drive stronger growth for the vet, and second any data that you have that shows how these plans impact diagnostic utilization?

Jonathan Ayers

Yes. We've – yeah, of course its early returns with the PurinaCare, but we very much believe this drives – it drove both of those and because the diagnostics are part of the wellness plan together would drive a growth in the practice and growth in -- and of course then diagnostics is a natural follow-on to that. One of our very good customers has been a doing a form of this for a long time and they have been achieving the strong double-digit same-store sales growth for quite some time.

So I think there is good precedent, but its all on the execution, these things aren’t simple and they do require a change in the practice and that’s always a problem with -- its always a challenge for practices to change and so one of the great things about the PurinaCare is it’s a system facilitates in that change process, just as many of our technologies that try to make it really easy for customers to change, but there is still that change in behavior and process has got to take place at the local practice.

Kristina Blaschek - William Blair & Company

Okay, thanks. And I had one last question, any idea how much of the end-market improvement may have been from the extra day in the quarter and easier weather comps on a year-over-year basis versus more of a sustained underlying uptick in the industry with a stronger consumer and more new pet acquisitions?

Jonathan Ayers

I think we've adjusted for the day. The weather is a great question. If you recall last year we had a horrible weather in the first quarter and this year we had great weather. So it is a very favorable weather compare and its tough to analyze that, but I think certainly that was a significant factor. We saw a gradual improvement over the course of 2011 and probably some of this is a continuation of that gradual improvement and other of it is the favorable weather compare.

Kristina Blaschek - William Blair & Company

Great. Thanks for all the color today.

Operator

Thank you. Our next question comes from the line of Miroslava Minkova with Leerink Swann. Your line is open.

Miroslava Minkova - Leerink Swann

Yes. Hi, Jon. Hi, Merilee. Let me start with a question on the FTC agreement or the one you expect to sign. First of all what gives you the confidence that FTC will agree to just one distributor, one of your three major distributors coming off the exclusive agreement. What – how do you think about – how did you think about that and secondly what – to the extent you can discuss, what kind of an agreement do you expect to sign with the FTC?

Jonathan Ayers

Well, first of all we can't predict the FTC or speak for them. But we’ve had discussions with the FTC, we believe we understand the nature of their concerns. We’ve informed the FTC of our plans as described here today and we’re trying to make this process as transparent as possible to the FTC staff, to the industry, and to the investment community. And of course there are no guarantees as I said, but we would not proceed down this path if we didn’t have some confidence that this would resolve the FTC concerns making and also of course making a sense for our business.

With regard to what would happen, it’s our sense that the FTC would seek to formalize the arrangement where we have one distributor that is carrying competitive product and carrying our product as a generalist instead of value added and thus at a different margin they seek to formalize that in the form of a consent degree. And so that’s our expectation.

Miroslava Minkova - Leerink Swann

Okay. So that’s the basic thing that you expect in the consent degree? Okay, and maybe as a follow-up to that, I am trying to just square way your comment, the economy did improve in the first quarter, you’re seeing volume up 4% -- 5% and practice revenues up 7%, yet at the same time an organic growth of 10 overall – yet at the same time your organic revenue growth guidance for the full-year is unchanged, and in fact suggests that things should probably desiderate slightly, help me understand why the – why so conservative on the guidance?

Jonathan Ayers

Okay, so…

Miroslava Minkova - Leerink Swann LLC

And does it have anything to do with it; in fact you’re changing the distributor arrangement?

Jonathan Ayers

To the latter question, absolutely no impact on that, we don’t expect any impact on that. This is a refinement and really an integrated strategy. So, the answer to that last question is no, when you say increase in 5%, this is our -- these are our Cornerstone customers, this is not the market as a whole. And our Cornerstone customers in general have done better than the market as a whole as we understand it. And so, second is part of that was – I think you saw it in the retail sales, it’s a -- there is a favorable element that’s probably transitory.

Third, of course that’s only U.S. data, and over 40% of our revenues at IDEXX as a whole comes from outside the U.S. and of course Europe while it grew 5% in the first quarter for us in the companion animal business, that decelerated from 8% in the fourth quarter and I think that’s -- it’s going to be a little bit more challenging situation. So, there are a lot of puts and takes. We’ve not changed our organic growth guidance. It remains the same as it was in the last quarter.

Merilee Raines

Yeah, Miroslava, the other thing that I’d add to that is it’s kind of it’s aligned with the comments on Europe growth. But the livestock and poultry business we did also lower the organic growth projection for the year for that business and that lowered performance in Q1 was partially offset by some strong growth in our dairy business due to some testing that happened in China and we expect that the level of that testing is going to drop down fairly significantly as we go through the year. So there are other parts of the business as well, the companion animal business that are -- it’s all factored into our organic growth guidance for the year.

Miroslava Minkova - Leerink Swann LLC

Thank you very much.

Operator

Thank you. Our next question comes from the line of Ross Taylor with C.L. King. Your line is open.

Ross Taylor - C.L. King & Associates, Inc

Hi. I guess my question relates to the potential changes in your distribution arrangements, but when you do eliminate one of your value-added distributors, do you expect a lot more of your business is going to shift into the remaining value-added distributors giving them new added incentive to want to remain so?

Jonathan Ayers

Well, first of all, we’re not going to eliminate one of our value-added distributors. They’ll continue to carry -- we would anticipate they continue to carry our line in more of a generalist than a value-added. Certainly – and nothing changes in this industry overnight and we don’t want to disrupt pre-established relationships between our longstanding distributors and our mutual veterinary customers.

Certainly, the value-added ones that we’ll be continuing to treat as an extension of our sales force, in that way we’ll be training them, we’ll be working very closely with them, all as we’ve in the past to continue to grow our business. So it’s kind of hard to predict how things could sort out. But I guess there could be some gradual shift over time.

I think one of the benefits we’ll have is our remaining distributors will be more -- that will have one last national distributor came with on a value-added basis and therefore they’ll probably I’d say not that they won’t motivate before, but more motivated continue to grow our business because of that fact.

Ross Taylor - C.L. King & Associates, Inc

Okay. Maybe this is a follow-up to that, I mean, would you anticipate that your economic arrangements you’ve with your value-added distributors whether those will change materially next year compared to what you’ve this year?

Jonathan Ayers

I think they’ll be generally the same. We’ll be in conversations with them about what the nature of -- what our relationship would look like next year, but I’d say generally speaking that they will be quite similar to where they’re today.

Ross Taylor - C.L. King & Associates, Inc

Okay. All right, thank you very much.

Operator

Thank you. Our next question comes from the line of Jonathan Block with SunTrust. Please go ahead.

Jonathan Block – SunTrust Robinson Humphrey

Thanks. And good morning, guys. I guess the first one, Jon, just for clarity on the market, I think it was actually the third quarter in a row of deceleration in European CAG from ten to eight to five, and so can you just comment on what’s going on over there? Are you starting to see some stability in the mid single-digit range or do you see continued deceleration there? And then if you can comment if that’s really what’s keeping your organic growth in check because [via] the Cornerstone data, it does look like we saw a nice sequential pickup in the U.S. market?

Jonathan Ayers

Yeah, little bit more color on Europe. First of all, while we had a really great weather here in the U.S, they did not have so great. They had pretty bad weather in Europe. So I think that may have been a contributing factor.

We’ve business across Europe. I think our northern parts of Europe are continuing to do quite well, including places like Germany where we’ve significant business in the companion animal business, and France. The challenges are more in southern Europe as you’d expect, Italy and Spain, but it’s -- well anything, it’s hard to predict. I think we’re pretty – we’ve got continued growth plans, we’ve a great European country management and very established strategies to continue to grow the business. So I’d not -- it’s hard to predict what’s going to happen in Europe generally, but I’d be surprised if we had any further deceleration of growth especially given perhaps some of that was weather.

Jonathan Block – SunTrust Robinson Humphrey

Okay. And then, I try to adhere to the two question rule, but I guess like other’s multi parts. So, on the distribution side of things, I just want to make sure I’ve got this correct, it sounds like did the FTC sign off, because if you unwind one of your three distributors with the consolidation in this industry arguably 50% -- up to 70% of this markets could still be locked up. So can you comment – and the FTC essentially giving you a soft sign off on unwinding one of the distributors?

Jonathan Ayers

Yeah, we of course would disagree with the notion that any part of the industry is locked up and one reason we say that is there have been a variety of ways to reach the market and our competitors have been quite successful in reaching the market with direct and other distribution channels. So this is only one of several ways to reach the market.

We -- as we understand it by moving to this generalist relationship with one of our three largest distributors where they don’t – aren’t subject to the competitive products policy and we would therefore of course expect them to carry competitive products along with our products addresses the FTC’s concern, and we’re committed to moving forward with that change and then I’ll tell you that we’re very, very confident that will be successful in that process.

Jonathan Block – SunTrust Robinson Humphrey

Okay. And just a second part to that question, I guess, in terms of share shifts, whatever happens, it happens, but turning it back to the P&L, can you talk to arguably what you would see from legal on an annual basis? I mean when we look out to next year, what do you spend on legal from the FTC overhang in ‘11 or what would you expect in ’12? And then I think Ross was going there, and I just didn’t understand it, if you’re one of the two distributors that remains exclusive to IDEXX, do you sort of have to sweeten this – the spot, give them a higher commission to keep the exclusivity? Thanks guys.

Jonathan Ayers

I missed the last question.

Jonathan Block – SunTrust Robinson Humphrey

In terms of what your – the payment to the distributors if you’re staying exclusive, did you’ve to give a bigger spread or sweetness spot in order to remain it to keep the exclusivity?

Jonathan Ayers

No, I really don’t – actually I think the remaining distributors, IDEXX would actually become more valuable to them because they’ve one less large distributor to content with as value-added. So I don’t see that really at all possibility. I think the changes will probably be modest, if anything that might be slightly favorable to IDEXX. But we’ll continue to invest in our strategic distributors. And of course with regard to economics, as we’ve mentioned, because of the lower margin that the generalist would receive on IDEXX products because they’ve moved away from being value-added. That’s – we estimate to be $6 million to $12 million in resources that we can then reallocate to our sales, marketing customer support and support of our remaining value-added distributors.

So that’s going to be a nice and that’s incremental to our existing investments in that area. So that will be helpful to us to continue to serve customers and bring our innovations to the market. I’ll have Merilee answer your question with regards to the legal spent.

Merilee Raines

Okay. Jon, we -- over the course of the last couple of years and through the first quarter of 2012, we’ve spent about $5.5 million in legal expenses related to this investigation. And I think we’re anticipating that until there is full resolution on this matter that we’re going to continue to incur some legal spent, albeit we hope it will be at a lower rate. But we did spent, for instance in the first quarter, we spent about $0.5 million in legal.

Jonathan Ayers

(Technical Difficulty) thanks Jon. Okay, next question?

Operator

Thank you. We’ll go to the line of Erin Wilson with Bank of America-Merrill Lynch. Your line is open.

Erin Wilson - Bank of America-Merrill Lynch

Hi. Thanks for taking my questions. On the distribution update do you know what sort of time frame you’ll be formalizing that decision with the FTC and I guess how that will be disclosed?

Jonathan Ayers

Yes. Well, our contracts with our distributors today are annual contracts, and they expire at the end of the year. We cannot unilaterally change one of these distributor contracts. So we’d anticipate that this change would be put in place no later than when the contract – these three contracts expires, and we’ve moved one of our distributors to this generalist approach. Should one of the distributors want to move more quickly to the generalist approach, we’ll do that. So, that’s why the timing is a little bit difficult to predict. And once we’ve entered into that new relationship with that distributor in a way that we believe is responsive to the FTC’s concerns, then we’d anticipate that we’d -- that the FTC would seek to have this modified agreement formalized in the form of a consent order.

Erin Wilson - Bank of America-Merrill Lynch

Okay. So we should probably hear that any sort of distribution agreement before we hear any sort of FTC, simultaneously?

Jonathan Ayers

I’d say we probably hear about the change in the distribution agreement before we hear about the FTC, but it’s -- what we believe is by having moved through this modified agreement with one of our three distributors, this does address the FTC’s concerns.

Erin Wilson - Bank of America-Merrill Lynch

Okay.

Jonathan Ayers

So that’s – so I think then we’ve the FTC seek to formalize the modified agreement.

Erin Wilson - Bank of America-Merrill Lynch

Okay. Great, thanks. And on the Reference Laboratory side of the business, do you have the same store volume trends at all, if not specifically maybe directionally?

Merilee Raines

The same-store volume trends in the U.S. were about 3%.

Erin Wilson - Bank of America-Merrill Lynch

Okay. And what portion of the overall lab growth was attributable to Consulting Services?

Jonathan Ayers

We’ve to get that information for you, Erin.

Erin Wilson - Bank of America-Merrill Lynch

Okay, no, that’s fine. Thank you.

Merilee Raines

Yeah, it was about $2.5 million.

Erin Wilson - Bank of America-Merrill Lynch

Okay.

Jonathan Ayers

Is the revenue or the growth?

Merilee Raines

Of the $101 million.

Jonathan Ayers

Yeah, so that’s the total amount. So obviously it’s a small piece of the total.

Erin Wilson - Bank of America-Merrill Lynch

Great. Okay. Thank you.

Operator

Thank you. Our next question will come from the line of Nicholas Jansen with Raymond James. Your line is open.

Nicholas Jansen - Raymond James & Associates

Hi. A couple of quick questions, first on just the distribution, I guess what if more than one wants to move to a generalist status, do you allow that or is it something that you think you can, I guess, sweeten so that only one decides to leave to a generalist mode?

Jonathan Ayers

Well, Nick, let me describe the generalist role and the economics, so I think you’ve a better appreciation. The generalists would continue to provide veterinary customers with the IDEXX product line, of course, including taking customers orders and shipping kits and consumable out of their warehouse. They would not generally be expected to have any value-added focus from the distributor sales force as the nature of the relationship with IDEXX would have changed. The distributors, as we mentioned an important element here is the distributor – generalist distributor not be bound by a competitor product policy unless we would expect them to carry products competitive with IDEXX. The generalists also earn a margin on IDEXX products that’s consistent with industry standards for this type of arrangement which is more in the single-digit range and substantially lower than the current margin that our distributors receive on our product today.

So that’s a very significant element of the change, and so again we cannot predict how competitors react, how our distributors will reach, we have wonderful relationships with them. We’ve worked with them closely in many cases over two decades and I think we're important to their business, they know our product-line very, very well, we've done years and years of training and of course it generates an important margin to them. So, they got to weigh that versus the opportunity to care competitive products.

Nicholas Jansen - Raymond James & Associates

Okay, and then just thinking about it, if one does specifically leave, you said about 5% to 8% of total revenue is under general – kind of under the generalist model. What level of perhaps if you wanted to frame potential sensitivity to the downside? What level of those revenues would you consider perhaps that risk that we should be thinking about as we model for ’13? Thanks.

Jonathan Ayers

So first of all when you say one of the distributors would leave, I’d say, they’re not going to leave us, they are going to move to the generalist model and continue to carry our products in this – in the form that I described. I’d say absolutely zero, because we've got very, very strong relationships with our customers and so, I don’t think any of the revenues would be at risk.

In addition Nick, I think its important to understand that in addition to our existing sales and marketing investments we would be adding another $6 million to $12 million of sales and marketing investments to grow our business. We would augment our budget by $6 million to $12 million that can be used for a variety of ways to support our growth strategy. So that’s an offset to the move of one of our major distributors from value added if you will in the way the distributors are value added recognizing we sell our instruments direct and we have a direct sales force that works hand-in-glove with our distributors in things like 4Dx, the Plus launch. And then one thing I do want to say is, we will move one of our distributors to generalist, I mean that is not a question a bit, its just really a question of when and who.

Nicholas Jansen - Raymond James & Associates

Okay. And then just lastly on just back to the base business, in terms of gross margin, I’d have or just I’d assume with the 9.6% consolidated organic revenue growth that we perhaps would have saw a little bit more, flow through to the bottom line. So, is there more investments this quarter in anticipation of kind of some of the exchanges or are we thinking about the less of the price realization that you saw was kind of an offset to that better organic volume growth? Thanks.

Merilee Raines

Yeah, I think Nick some of this is related to revenue mix and the fact, with businesses like Livestock and Poultry Diagnostics relatively high margin and I’m showing the negative growth in the quarter, that – that’s a factor, I mean, strong instrument sales, strong lab sales are carried. Again, these were all relatively lower gross margins and the Company average – are contributors there. We have stepped up investment a little bit in OpEx and I think that was – that’s what reflected in our guidance as we went into the year and in our …

Jonathan Ayers

Those are investments that really been in the area of on – product development …

Merilee Raines

R&D, which …

Jonathan Ayers

… R&D commercial, nothing in there in contemplation of this change since this was a relatively recent development.

Nicholas Jansen - Raymond James & Associates

Thank you very much. Great quarter, guys.

Jonathan Ayers

Thank you.

Operator

Thank you. Our next question comes from the line of Ben Haynor with Feltl and Company. Please go ahead.

Ben Haynor - Feltl and Company

Good morning, guys. Thanks for taking my question. Do you guys consider weather trends completely transitory, or do you notice that warm weather really are in the year like we’ve had this year in the U.S. at least, has some carry through throughout the remainder of the year?

Jonathan Ayers

Its really hard to call. I will say that everybody is talking about it being a pretty big flea and tick season, because of the fact that was a warmer winter and the fleas and ticks generally survived the winter better than they would have it was a really bad winter. But on the other hand, that could then pull forward of the annual visits into the first quarter from the second quarter kind of like some of the speculation we’ve seen in general with retail sales. And so we think it’s a good development. We don’t think it’s a net neutral, but its we will just have to see how the carry through happen.

Ben Haynor - Feltl and Company

Okay, sure. And then just one housekeeping one. What was depreciation and amortization during the quarter?

Merilee Raines

That – just bear with me for a second.

Ben Haynor - Feltl and Company

No problem.

Merilee Raines

Okay. That was about $12.8 million.

Ben Haynor - Feltl and Company

$12.8 million. All right. Thank you very much.

Operator

Thank you. Our next question comes from the line of Mitra Ramgopal with Sidoti. Your line is open.

Mitra Ramgopal - Sidoti & Company LLC

Yes, good morning. I’m not sure if you mentioned this already. I just had a quick question. Again, if you had any specific criteria as you look to select a distributor in terms of the generalist approach?

Jonathan Ayers

I think the criteria that we’re going to be select, using is – this is the – it is to select which of our three distributors would be continuing in a value added approach. And we’re going to go through that process, working very closely with distributors, they’ve all been long standing excellent distributors for us. We’re going to see who really best meets our strategic needs based on their track record among a variety of factors. Their commitment to the IDEXX line and a lot of other factors we plan to conduct a fair and transparent process with our distributors and making this evaluation on which of our distributors would be continuing in a value added mode.

Mitra Ramgopal - Sidoti & Company LLC

Thanks again.

Jonathan Ayers

Thank you.

Operator

Thank you. And the last question comes from the line of Miroslava Minkova with Leerink Swann. Please go ahead.

Miroslava Minkova - Leerink Swann

Hi. Thanks for taking my follow-up. I do have a quick one. I appreciate that Jon that you mentioned, you don’t expect any impact from change in agreements, but just to get a perspective and sorry if I miss that, what is the percent – of the 20% of revenues that goes through distributors? How much of this is the big three – how much is value added and how much is the big three?

Jonathan Ayers

Well, we’ve said that, its majority, but certainly not all of it. And we’ve said that the move of one of the big three to generalist would be somewhere between depending on which one, 5% to 8% of the 20%, if you will. So, they’re – you can kind of – I think they gives you – I think that answers your question as to well. So that – if you divide 5% to 8% by 20% you get 25% to 40% of the U.S. volume that goes through – that goes to the distributors, would be involved with one of the moves. But I do want to say that our distributors are an important part of the equation. But we have – if we are talking about instruments and consumables, we sell our instruments directly. Distributors are sometimes helpful in that process on – less than the half the time, but we know where the market opportunities are as a result of our market knowledge. It’s our direct sales force that closes the instruments and you can similarly on rapid assay. The vast majority of our rapid assay are highly differentiated, important products that really don’t have an alternative in the market. And we work with a combination of our direct sales force and our distributors in order to expand the adoption of these unique value added offerings.

Let’s take 4Dx and 4Dx Plus as an example. There is nothing else on the market that is a comprehensive tick-borne disease screening test combined with a Heartworm test let along one that has over 60 papers and 10 years of clinical data behind it. And so we really see this as a refinement. We don’t – its not like customers are going to move away from 4Dx because they got a relationship with IDEXX as much as they even probably – even more so than that they have a relation with the distributors. The distributor is helpful to the equation, they provide the product, their reps are -- work hand in glove with our direct sales force. But it is – we also have a direct sales model in a highly differentiated product offering and an instrument install base which were all considerations and thinking about IDEXX’s growth with this refinement.

Miroslava Minkova - Leerink Swann

Yes, that’s very helpful color. Thank you, Jonathan.

Jonathan Ayers

Thank you very much.

Operator

And with that, Mr. Ayers, I’d like to turn it back over to you.

Jonathan Ayers

Okay. I want to thank everybody for being on the call. We’re very excited about our prospects for the year. We’re very excited about our innovation agenda. We really do believe that we’re at – the industry itself and us at the lead had an inflexion point, were veterinarian’s are now beginning to appreciate that they can impact on practice visits with their own practice management and marketing. In the same way probably, dentists figured this out that keeps a go. And that variance are kind of were dentists were decades ago.

So there is a big opportunity here because we know the pet owner responds, when the veterinarian is able to communicate the value of the care that they can provide. We see that in individual cases and so we’re excited with the launch of our new menu, including 4Dx Plus and Phenobarbitol on Catalyst Dx® and we’re very excited about the partners in wellness with PurinaCare and it’s a big deal, the VetConnect PLUS announcement is another significant value added piece that comes with whether you got IDEXX in-house or reference lab or both, a real value added piece. And we think VetConnect PLUS is going to actually be a platform for some additional opportunities in the future, in the same way that five years ago when we launched smart service that became the platform for a lot of new things and indeed one of them – those new things was the launch of VetConnect PLUS.

So we’re very excited about the opportunity for growth and our innovation agenda and we really appreciate the attention and the confidence that our investor base has and of course we really want to thank all of our employees who continue to work hard to bring the value to the customer in a economically attractive way. Thank you. That ends the call.

Operator

Thank you. And ladies and gentlemen, that does concludes your conference call for today. Thank you for your participation and for using the AT&T Executive Teleconference Service. You may now disconnect.

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