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Executives

Susan Vassallo - Vice President of Corporate Communications

Stanley M. Bergman - Executive Chairman and Chief Executive Officer

Steven Paladino - Chief Financial Officer, Principal Accounting Officer, Executive Vice President and Executive Director

Analysts

Elliot Feldman - Barclays Capital, Research Division

Kevin K. Ellich - Piper Jaffray Companies, Research Division

Glen J. Santangelo - Crédit Suisse AG, Research Division

David Larsen - Leerink Swann LLC, Research Division

Robert P. Jones - Goldman Sachs Group Inc., Research Division

John Kreger - William Blair & Company L.L.C., Research Division

Henry Schein (HSIC) Q3 2012 Earnings Call November 7, 2012 10:00 AM ET

Operator

Good morning, ladies and gentlemen, and welcome to the Henry Schein Third Quarter Conference Call. [Operator Instructions] As a reminder, this call is being recorded. I would now like to introduce your host for today's call, Susan Vassallo, Henry Schein's Vice President of Corporate Communications. Please go ahead, Susan.

Susan Vassallo

Thank you, operator, and my thanks to each of you for joining us to discuss today's Henry Schein's third quarter results. With me this morning are Stanley Bergman, Chairman and Chief Executive Officer of Henry Schein; and Steven Paladino, Executive Vice President and Chief Financial Officer.

Before we begin, I would like to state that certain comments made during this call will include information that is forward-looking. As you know, risks and uncertainties involved in the company’s business may affect the matters referred to in forward-looking statements. As a result, the company's performance may differ from those expressed in or indicated by such forward-looking statements. Also, these forward-looking statements are qualified in their entirety by the cautionary statements contained in Henry Schein's Securities and Exchange Commission filings.

The contents of this conference call contains time-sensitive information that is accurate only as of the date of the live broadcast, November 7, 2012. Henry Schein undertakes no obligation to revise or update any forward-looking statements to reflect events or circumstances after the date of this call.

[Operator Instructions] With that said, I would like to turn the call over to Mr. Stanley Bergman.

Stanley M. Bergman

Thank you, Susan. And good morning, everyone, and thank you for joining us for our third quarter conference call. We are very, very pleased to have gained market share in each of our 4 business groups during the third quarter. Each group also reported accelerated internal sales growth, that is in local currencies, compared with the second quarter and after you exclude the impact of seasonal influenza vaccine from our Global Medical business. So adjusting for flu, which we'll talk about separately, and the results there are quite good, too, you'll see that internal growth has been positive in all of our business units and we have gained market share across the board.

We are also pleased today to be raising the low end of our 2012 EPS guidance range and to be introducing guidance for the year 2013 that represents growth in EPS of approximately 10% to 12% compared to the midpoint of our 2012 guidance range, and Steven can provide further color on that.

Looking at our business operations through 2 strategic acquisitions, we recently enhanced our dental software offering, in particular to dental schools, and expanded our veterinary footprint to include Ireland. These transactions illustrate our commitment to advanced technology and geographic expansion. Of course, these are 2 key initiatives in our 2012 to 2014 Strategic Plan.

I'll provide a little bit -- further thoughts on these acquisitions and some commentary on each of the business groups in a moment. So overall, we're quite pleased with our results for the third quarter. We think each of our business units is marching in a very solid way towards implementing our strategic plan, making progress.

And so let me now turn the call to Steve to provide further information on our quarterly financial results. Steve?

Steven Paladino

Okay. Thank you, Stan, and good morning to everyone. I'm also pleased to be reporting overall strong financial results and sales growth for the third quarter of 2012. Our net sales for the quarter ended September 29, 2012 were $2.2 billion, reflecting a 5.7% increase compared with the third quarter of 2011. This consists of 8.9% growth in local currencies and a 3.2% decline related to foreign currency exchange. In local currencies, internally generated sales were up 4.4%, and our acquisition growth was 4.5%.

As Stanley mentioned, I'd like to point out that our seasonal influenza vaccine sales were lower this quarter than in the prior year's third quarter, although our profitability was higher. In order to provide more meaningful commentary, I will be discussing sales results including and excluding this impact.

So excluding sales of seasonal influenza vaccines from both periods, our net sales increased 6.4% and 9.8% growth in local currencies including a 5.1% internal sales growth rate. You can see the details of our sales growth that are contained in Exhibit A of our earnings news release that was issued today.

Our operating margin for the third quarter of 2012 was 6.7% and declined slightly by 8 basis points compared with the third quarter of 2011. However, excluding the impact of current year acquisitions, our operating margin actually expanded by approximately 16 basis points compared with the prior year. And as we have previously discussed, acquisitions, until integrated, typically carry lower margins than our existing businesses and serve to reset our base operating margins.

If we look at our operating expenses as a percent of sales, they improved by 44 basis points as we continued to control and leverage our expense structure. This improvement was offset by a decline of 52 basis points in gross margin, and that's due mainly to our Global Animal Health business, which includes higher sales growth as well as product mix impact. And just to remind people, our Global Animal Health business has a higher percentage of its sales in pharmaceutical products, and these products carry a gross margin lower than our company average. So again, it's a mix issue.

Our effective tax rate for the quarter was 30.5%, which is in line with our previous guidance and down from the 31.5% in the third quarter of 2011. We expect that our effective tax rate to remain in the 31% range or slightly lower for the remainder of the year. Net income attributable to Henry Schein, Inc. for the third quarter of 2012 was $96.8 million or $1.08 per diluted share. This represents an increase of 5.2% and 9.1%, respectively, compared with last year's third quarter.

I think it's also important to note that the foreign currency exchange -- translation exchange had a negative impact on our EPS, and for the quarter that negative impact was a little over $0.01 per share versus last year.

As a reminder, I'd like to point out that a $0.10 change in the dollar-euro exchange rates will have an impact on our quarterly EPS by approximately $0.015 of EPS on a quarterly basis.

So let's provide some detail on our sales results for the third quarter. Our Global Dental sales for the third quarter of 2012 declined by 0.3% to $1.1 billion. But this consists of 3.4% growth in local currencies and a 3.7% decline related to foreign currency exchange.

In local currencies, we had internally generated sale were up 2.3%, and acquisition growth contributed an additional 1.1%. We believe that our overall dental sales growth in local currencies exceeded our estimates of what the market is growing, so we continued to gain market share. And if we look at our 2.3% internal sales growth in local currencies, and that's on a global basis, it's comprised of 3.1% growth in North America and 1.0% growth internationally.

I'll give you some detail on each of these figures. First, the 3.1% North American internal growth in local currencies included 2.3% growth in sales of dental consumable merchandise and 5.6% growth in dental equipment sales and service revenue. The equipment growth continues to be very broad-based for us, with particular strength in our high-tech product lines.

The 1% international internal growth in local currencies included 3.4% growth in sales of dental consumable merchandise and a 4.5% decline in dental equipment sales and service revenue. The decline in international dental equipment sales reflect some economic challenges in many of our markets in Europe, but most notably in Italy. We also saw a modest decline in equipment sales in Germany, which reflects a tough comparable versus last year. And as you may recall, last year in Germany, we had the benefit from the biennial IDS trade show that we did not have this year.

Looking at our Global Animal Health sales, they were $598.1 million in the third quarter, an increase of 19.2%, which consists of 23.9% growth in local currencies and a 4.7% decline related to foreign currency exchange. In local currencies, our internally generated sales were up 9.1%, and acquisition growth was 14.8%. If we look at the components of our 9.1% internal growth, we can see that North America grew 12.2% and international grew 6.2%. The growth was primarily driven by sales of parasiticides as well as certain other vaccines in the animal health market. We believe we certainly gained market share in the Global Animal Health business, as we have done in previous quarters.

Turning to our Global Medical sales, they were $442.5 million in the third quarter. That's an increase of 4.2% and consists of 4.8% growth in local currencies and a 0.6% decline related to foreign currency. In local currencies, we have internally generated sales up 3.5%, and our acquisition growth was an additional 1.3%.

Looking at the components of that 3.5% growth, 3.8% was in North America, and 2.1% was a decline in our international business. As we said earlier, this year, we sold fewer doses of seasonal influenza vaccine than last year, but it's very important to point out that although sales from this product line were less in 2012 versus 2013, our profitability was higher -- 2012 versus 2011, sorry, our profitability was actually higher. In fact, we expect to achieve, on a full year basis for 2012, our full year profitability goals for flu vaccine, and there may actually be some upside to that also.

So if we exclude sales of seasonal flu vaccines from both periods, we had very strong medical sales growth in the third quarter of 8.4%, with 9.1% growth in local currencies and 7.6% internally generated. The 7.6% internally generated sales growth was 8.2% in North America and a 2% decline international. Here again we also believe we continue to gain market share in the North American segment of the Medical group and the North American segment is the largest portion of our medical sales, which represents more than 90% of our total Medical global business.

Turning to technology. Our Global Technology and Value-Added Services sales were $71 million for the third quarter, an increase of 14.1%, with 14.7% growth in local currencies and a 0.6% decline related to foreign currency. In local currencies, we had internally generated sales of 11.2% and an additional 3.5% growth related to acquisitions. The components of that 11.2% growth was 12% in North America and 4.7% internationally.

We continued to repurchase our common stock in the open market during the third quarter. Remember, we had said at the beginning of the year that we expect to repurchase about $200 million to $300 million on an annual basis and we expect to be at the high end of that range for the full year 2012. And for the quarter, specifically, we repurchased approximately 760,000 shares of common stock at an average price of $77.52 per share, which is approximately $59 million. The impact of this repurchase on the third quarter was not material, although you will see that we did see some nice improvements in EPS on a year-to-date basis.

At the close of the third quarter, we still had $84 million authorized for future repurchases of our common stock.

If we take a brief look at our balance sheet and some highlights. First, operating cash flow for the quarter was $78.5 million. That compares to $90.3 million in 2011's third quarter, and this minor decrease was related primarily to working capital and due primarily to temporary increases in inventory levels. We continue to believe we will have strong operating cash flow for the year, and that will be in excess of our adjusted net income excluding restructuring costs.

Our accounts receivable days sales outstanding improved to 41.1 days versus 42.1 days last year. Our inventory turns were down slightly from 6.6 turns last year to 6.3 turns this year.

And last, looking at our balance sheet, I'm pleased to report that in September, we closed on a new $500 million revolving credit facility. This new facility matures in September of 2017, so it's a 5-year facility. And it replaces our $400 million revolving credit facility, which was scheduled to mature in September of 2013 so next year. We're very pleased to have expanded the credit line, and we also are very pleased that we've been able to secure favorable terms on that credit line.

So I conclude my remarks with discussing our 2012 and 2013 financial guidance. Due to the strength of our third quarter results, we are raising the low end of our 2012 diluted EPS guidance and now expect that EPS for the year to be in the range of $4.35 to $4.40. And this represents growth of 10% to 11%. And it compares to our previous guidance of $4.30 to $4.40, so we basically increased the bottom -- from the bottom half of the range by about $0.05 to the top half of the range.

Let me point out that the fourth quarter of 2012 has one less week compared to the fourth quarter of 2011. Remember, we had that extra week last year. And as always, our guidance excludes restructuring costs and as for continuing operations, as well as any previously announced acquisition that does not include the impact of any potential future acquisition activity.

Looking at next year, we are introducing 2013 financial guidance as follows: for 2013, we expect diluted EPS attributable to Henry Schein, Inc. to be $4.81 to $4.91, which represents a growth of approximately 10% to 12% compared with the midpoint of our 2012 guidance.

Again, the 2013 guidance is for continuing operations and includes any completed acquisitions or announced acquisitions but does not include any future acquisitions that may occur. It's important also to note that in determining our guidance for 2013, we took what we believe to be a realistic and somewhat conservative view of the overall economic challenges in the European Union, as well as the foreign currency exchange rates.

So with that, I'd now like to turn it back to Stan.

Stanley M. Bergman

Thank you, Steven. Let me review with you some highlights from the third quarter and recent weeks from our Global Dental, Global Animal Health, Global Medical and Technology and Value-Added Services business groups.

So let me start with the dental group. We believe that our dental -- our Global Dental group gained further market share in all of its business despite a challenging environment for the dental equipment in many of our markets. As Steven mentioned, sales of dental equipment declined fairly sharply in Italy during the quarter. And let me remind our shareholders that we're really the only national equipment provider in Italy. And having said that, in the scheme of things, the Italian business is not material to the entire Henry Schein business but is an important part of our European dental business. And we also saw modest decline in equipment sales in Germany versus a tough comparison to the prior year, which benefited of course from the biennial IDS trade show, which takes place again this coming March, this coming 2013 March. So we expect to see positive growth at that time. We remain confident in our dental strategy and look forward to continue to gain market share across the board in our Global Dental business.

And as Steve also noted, once again, North American dental equipment sales growth was particularly strong. At Henry Schein, we place considerable focus on advanced technology products. These products help our clients deliver high-quality patient care, while at the same time operating efficient practices. These products are also positioned to allow for the integration of various aspects of the practice, the various areas of practice management, and it's equipment that access to integrator, and it ideally positions -- the equipment and, of course, the software, shall we say -- and ideally positions Henry Schein for success with future high technology products.

As a good example of our commitment to bringing the latest in advanced technology products to our customers, we recently announced that Henry Schein was selected by 3M as the first qualified U.S. channel partner for a new digital impression system branded the 3M True Definition Scanner. We will sell, install and support the device, which will be offered as a standalone digital impression system at a price that we believe will change the economics of CAD/CAM dentistry. In fact, it may be lower prices available in the future but for the quality of the 3M product that has been brought to market and is expected to be upgraded in the future, and for the price point, we think it will be a great value to our customers.

We will also offer customers who acquire the 3M True Definition Scanner the opportunity to have a full chairside CAD/CAM solution through the integration with the E4D Design Center and the E4D Mill. This solution has already been validated by 3M as a trusted chairside connection, so we will be offering the connection as an upgrade option to users of the 3M system or as an integrated CAD/CAM system. So I think you will see through the work we're doing in the marketplace that we have a terrific solution for the standalone scanner but also the standalone scanner in combination with the software and the milling system. And this is early times with tremendous amount of upside opportunity with various software and hardware systems that Henry Schein will bring to market over the years to come. We're very, very excited with the progress being made by our practice solutions group, and Henry Schein is committed to being the go-to company for digital solutions.

And we now have the perfect choice for dentists who want an easy entry point into CAD/CAM dentistry with a further option of having a full chairside milling solution as an add-on. As another example of our commitment to innovation, late in the third quarter, we were named exclusive global distributor for Identafi Oral Cancer Screening Device. This is a small and really a terrific cordless handheld unit designed for in-office use to screen oral cancer and precancers. Henry Schein has been a leader in the oral cancer detection arena for well over a decade, and we are known for bringing excellent and innovative products to market in this area. This product, the Identafi Oral Cancer Screening Device, adds yet another very, very important component to our high-tech digital strategy. The product will become a core component of our Total Health Beyond The Mouth initiative, which includes a number of areas that we're focused on, including of course, the whole area of oral cancer but also sleep apnea and many other areas. So we're very, very pleased with the progress that our Global Dental business is making in terms of gaining market share and including on the consumable side but also on the equipment side. Of course, we'd be happy to provide further insight during the Q&A period.

So let's take a look at the Global Animal Health group. During the quarter, we continued to gain market share in the business, with particular strength here in North America in the U.S. market. After the close of the third quarter we announced the signing of a definitive agreement to acquire C&M Vetlink, which is a leading distributor of animal health products in Ireland. In fact, we expect to close on the transaction by the year end. C&M Vetlink was founded nearly 40 years ago as a distributor of certain pharmaceutical products in Ireland. Today, C&M Vetlink distributes a wide variety of veterinary and companion animal products to veterinarians across Ireland and recorded, for the 12 months ended April 2012, approximately EUR 42 million. That's about $58.5 million in sales. About 80% of these sales are for large animals, which reflects the importance of dairy farming and livestock in the Irish economy. Generally, we're not focused on the farming and the livestock arena, but in Ireland, this is of particular interest to us. And the company, CMS, (sic) [C&M] has a very good market share, terrific know-how in this sector. We have similar know-how, by the way, in other countries, such as Switzerland, and the U.K. and Australia and New Zealand, but generally, our focus is on the companion animal side.

From a product perspective, the majority of CNM sales are for pharmaceutical products. We expect the impact of this acquisition on operating margins to be less than 5 basis points going forward. With their headquarters in Limerick and warehouse in Limerick and Dublin, C&M Vet Link has 46 team members, including 11 field sales representatives. The acquisition makes Henry Schein a leading Irish vet distributor and reinforces the established Henry Schein Animal Health U.K. base in the United Kingdom and indeed, throughout Europe. Our veterinary business now has a presence in 11 countries worldwide, including 9 in Europe and the United Kingdom.

So I think you can see we're doing quite well on the vet side. Sales are good. Market share growth is good, and I think that it would be fair to say not only in the U.S. but really in each of the markets that we're on the ground in outside of the United States. So Europe, United States, and I think we're progressing nicely in Australia and New Zealand as well.

So now let's take a look at the Medical Group international or the Global Medical Group. We're very pleased with third quarter growth. We sold approximately 6.8 million doses of influenza vaccine during the quarter. And as of today, we sold approximately 8 million doses, representing essentially all of the season's sales, down a bit from our expectations of approximately 11.6 doses (sic) 11.6 million doses, but I'd like to point out quickly that though we're selling fewer doses compared with 2012. The profit contribution to Henry Schein from this product line is greater than last year and in line with our internal growth. But there is no exposure on the purchasing side either. So we're quite happy with where we are on the flu side. It's a nice annual contribution and complements our terrific progress that we're making in our North America, or U.S., shall we say, Medical business. More than 90% of our sales, by the way, in our Global Medical business are from North America. Our continued gains in market share in North America reflect the increased penetration of integrated delivery networks. I think we're doing very well in this area. We're doing very well with larger group practices. And the ASC, the ambulatory surgery centers are also areas we're doing well, as well as solid growth in sales of pharmaceutical products and medical equipment products. All-in-all, we're really pleased with our U.S. in particular, medical business, which is doing very well.

We've developed a strategic plan 3 or 4 years ago in this area to focus on the newer areas of health care delivery, the IDNs, the larger group practices, the ASCs. And we're executing in a terrific way in this area and also focused on certain specialties and are doing well in that area.

Now on the European side, it's a relatively small business, I think less than $100 million, but something that is important to us. We recently announced that Jürgen Hahn, a very experienced medical executive, has joined Henry Schein to be the President of our European Medical Group. Jürgen has responsibility for Henry Schein's Medical full-service and mail order businesses in Europe. Jürgen is the ideal person to build our European Medical Group into the continental leader role that we currently hold with our Dental and, of course, our Animal Health businesses. He brings to us more than 20 years of experience in the medical business, including work at Novartis, Fresenius, and most recently, Hitachi. Although as of this stage, we have not spent a huge amount of resource in our European Medical Group, it's an area that we think we will do quite well with in the future, and it will be a terrific complement for our U.S. Medical Group.

Today, Henry Schein serves approximately 75,000 physician customers throughout Austria, Germany, the Netherlands, Spain, Switzerland and the United Kingdom. In Europe overall, we have a highly experienced team of more than 4,000 Team Schein members serving medical, dental and animal health practitioners. So I think you'll see that we have done well, of course, in our Animal Health business and our Dental business in Europe and are now positioned to continue to expand the business -- our overall business in Europe in the medical arena with some great management and using the base that we have developed on the dental and animal health side.

So let me conclude my prepared remarks with a discussion of our business in the Global Technology and Value-Added Services arena. The performance of this group continues to be solid during the quarter. Good sales growth, of course, terrific margins. More than 85% of revenue from this business is derived from North America, and core results include a particular strength in recurring revenue streams on both the technology and financial services sides of the business. We are, of course, committed to utilizing advanced technology and software to help all of our customers run more efficient businesses, whether in the dental, medical or animal health space.

Later in the third quarter, we acquired a majority interest, a very important strategic investment, in The Exan Group, which is a Canadian dental software company servicing dental schools and general practice dentists in the U.S. and in Canada. I think Exan's reputation, for example, in the dental school area is unsurpassed. And talk to any dental dean of a U.S. dental school, or perhaps even some abroad, and you will hear that reputation being confirmed. Exan has 82 members, including 76 at headquarters outside Vancouver. They recorded sales for the 12 months of approximately -- last 12 months of approximately $11.7 million. Of course, compared to our overall $9 billion or so in sales, it's not material, but Exan's value to Henry Schein from a strategic point of view is really important. There is a greater growing demand for enterprise systems, both in schools, dental schools and the dental, the group practice arena. And we think that Exan working in complement with our Dentrix unit here in the U.S. and our software at Exan systems organizations abroad will really make headway and provide terrific value to large practices and particularly schools throughout the world. Of course, Exan sales recorded in our Global Technology and Value-Added Services business unit.

So Exan's main product is a dental institution management software solution that is sold to approximately 65 dental schools representing the vast majority of dental schools here in the U.S. and Canada. Exan also has a practice management solution for general practitioners that's being used in approximately 750 practices; also has a very good French version of software, which we will be introducing in Québec soon. Exan's dental software technology is well known for its excellent, tremendous success in the school arena and large practice area, and we're optimistic that the integration of the Exan line with Henry Schein's existing offerings of dental SOE and [indiscernible] will bring real value to our customers and improve on the stickiness of the relationship between our customers, helping them operate better businesses so they can provide better clinical care and at this event driving up our profits.

So that's a bit of flavor on our 4 business units. So before we open up for questions, let me highlight a new addition to our company's Board of Directors. In August, we announced that Carol Raphael had joined our Board. Carol will be a tremendous asset to Henry Schein, bringing to us a wealth of health care policy, economics and management experience. For more than 20 years, Carol served as President and CEO of Visiting Nurse Service of New York, which is, of course, the largest not-for-profit home health care agency in the United States.

She's credited with expanding the organization's services and launching innovative models of care for complex populations with chronic illness. She previously held executive positions at Mt. Sinai Medical Center and New York City government. Carol is an Advanced Leadership Fellow at the Harvard University, and she chairs the New York eHealth Collaborative, which is a public-private partnership working to advance the adoption of health information technology in the state of New York. As health care continues to evolve, Carol's Board experience will provide Henry Schein's Board with an important new perspective on this rapidly changing market and we're really excited that Carol has joined us as we take our medical business into a whole new world to complement the changes that are going to be evolving in the health care arena in the future. But also, Carol will be able to provide tremendous background information for the advances we're making in the dental arena and, of course, in the medical practice, the animal health practice arena as well.

So that's the overview. Steven and I are ready to take some questions. Operator, please open the line.

Question-and-Answer Session

Operator

[Operator Instructions] Your first question comes from the line of Elliot Feldman with Barclays.

Elliot Feldman - Barclays Capital, Research Division

Just a couple of quick questions, if I could. Maybe, even Stanley, for you, on the Medical side first. Obviously, a large acquisition taking place in the physician marketplace. Wondering if you have any perspectives broadly about going forward potentially how this transaction could impact you guys and maybe shift the competitive dynamics there, or is it still a little bit too early to tell there?

Stanley M. Bergman

Yes. Unfortunately, we do have competition, and there will always be competition out there. So I'm not sure whether the direct merger between the 2 companies you mentioned will impact us in any material way. Having said that, about 3 or 4 years ago, Henry Schein spent time undertaking 2 studies. One study was to review the methodology that we expect health care to be delivered in, in the future and how it would evolve. And the second was a study to determine what specialties to be focused on. We started implementing programs, strategies to support the results of those, the findings of that study. And I think we've done very well in focusing on the new entities, on the IDNs, the group practices, different kinds of ambulatory services that are now being used to deliver health care. And we're watching the acceleration of these trends. I think we've done very well with regard to capturing a lot of this business because we have very unique software services. And of course, our logistic capabilities in this regard are excellent. We expect to continue to make progress in this area. I think our results are quite clear -- 8% internal growth if you take out the flu vaccine. And I think you can expect us to continue to do well with these newer entities, as well as with the specialty areas that we've embarked on or focused on. So we remain very excited about our Medical group and are more focused on executing our plan than what our competition is doing and how they're merging. Having said that, I am sure that we will get some telephone calls from customers and others in the marketplace asking us to elaborate on how we are going to be operating, and I think we have a very good answer for the marketplace and very, very focused on executing our strategies in this area. We remain very excited, by the way, about our medical business and expect to invest heavily in that area over the years to come.

Elliot Feldman - Barclays Capital, Research Division

Sure. And one quick follow-up on that, maybe around capital allocation. As we look at 2013 and beyond, and you guys have clearly made some acquisitions here, consistent with your prior comments. Is the priority still M&A, particularly overseas as you guys continue to build out that scale that you talk about, Steve and Stanley, to build out your Dental and Animal Health platforms, particularly overseas and in Europe? And again, this is for Steve, really quick. Any share repurchase assumptions we should start building into our models for next year embedded in that guidance?

Steven Paladino

Okay. So on capital deployment, 2 things. One is similar to recent history, our goals are continue acquisition activity. It's not necessarily focus more outside the U.S. It happens to have been more outside the U.S. because it's a, a more fragmented market; b, there are no pan-European players other than Henry Schein so there's not a lot of additional competition for assets; and c, we have a smaller market share in Europe than we do in the U.S. But our focus is not necessarily outside the U.S. We'd like to do both in and outside the U.S. So ideally, with our free cash flow in the $500 million range, we'd like to spend $200 million to $300 million on an annual basis for acquisitions, cash acquisitions. We'd also like to spend an additional $200 million to $300 million in stock buyback. And as I said in the prepared remarks, for 2012, we'll be at the high end of that range, and we'd expect to continue it on an ongoing basis as a way to return capital to shareholders.

Operator

Your next question comes from the line of Kevin Ellich with Piper Jaffray.

Kevin K. Ellich - Piper Jaffray Companies, Research Division

Stanley, just wondering if you could give us some color as to what's driving the market share gains in both Dental and Animal Health segments. Are you taking share from some of your larger competitors or are you taking it from the small guys?

Stanley M. Bergman

Well, I don't think I can give you specifics on the breakdown between whether it's coming from large competitors or our small competitors. But I would say in all 3 of our global business units, we are quite agnostic as to where the business was coming from. And I would say that our solutions-based sales approach of fielding what I think is today something like 3,400 field sales consultants spread out in the U.S. in Europe, Australia, New Zealand and now in Asia, all with the same goal of helping practitioners operate a better business so that those practitioners can provide better clinical care, train those field sales consultants, giving them the tools to get the job done, ranging from consulting capabilities to software to financial services software, practice management software and other kinds of software, prosthetic solutions in the dental world rather than selling a particular hardware, coming out with solutions. I think all that, the direct mail, the telesales capabilities allowing the field sales consultants to be available for consulting rather than ordertaking, real sales consultants working with key manufacturers, suppliers to introduce new products, all those working across the board and we've invested heavily in these areas for 1.5 decade, maybe 2 decades and it's working. So I don't want to get into any specifics as to which distributor in what country, which location we’re taking business from, but I would think that in practically every one of our markets, we're gaining market share from some big competitors and some small competitors. So I don't think it's any easier or harder to get business from a small versus a large competitor. The small competitor may not have the tools but may have a deeper local community relationship. The bigger ones may have the tools but may have lost a little bit their way. So I would say from sitting here right now thinking of our 3 business units, I would say we're getting little bits of market share across the board.

Kevin K. Ellich - Piper Jaffray Companies, Research Division

Got it. That's helpful. And then just a quick question for Steve. Looking at the cash flow, you gave us some detail on the working capital and inventory. So we're looking at possibly north of $300 million of operating cash in Q4, and then I see inventories are building on the balance sheet. Is there anything going on there in terms of special stocking for the Animal Health pharmaceuticals or vaccines or can you give us some color around that front?

Steven Paladino

You know we did see a little bit of inventory increases in Q3 that may continue in Q4. We just saw some good buying opportunities. It was really on a spot basis, so I can't say it's necessarily something that will continue. But we do have a sophisticated procurement model that when we see opportunities, we do buy in slightly. From an inventory risk perspective, it's virtually 0, I would say, because we're buying in a few weeks’ extra supply, so there's really not an inventory risk and because capital costs are low, it's wise from a financial perspective. But I wouldn't say there's anything that I could point to, 1 or 2 things that would drive that. It's really being opportunistic in the market.

Operator

Your next question comes from the line of Glen Santangelo with Crédit Suisse.

Glen J. Santangelo - Crédit Suisse AG, Research Division

Stan, I really appreciate all the detail you gave on the different business segments. But as I think about sort of the growth, the internally generated growth numbers you're putting up in your Medical segment in the mid to high single digits, I just want to -- curious if you can elaborate a little further, I mean. Were there any incremental products categories in either of those segments that may have been driving additional growth? Or do you really feel like it's just robust market growth with some market share on top of that? And I guess if you can give us a sense for how fast you think those 2 markets are growing, then we can figure out maybe how much of it is maybe benefiting from market share.

Stanley M. Bergman

Yes, Glen. That's a good question, so let me bifurcate it. On the Medical side, I don't think there's any one product. I mean, you've got to take out flu, right? I think there are in fact some challenges in that market because there's a shortage of certain pharmaceutical products, namely in the anesthetic area, and that tends to be go lumpy right now because -- and I think we had a little bit of suppression of sales in that area. But overall, I would say that on the Medical side, it's not product-driven. It's more driven from a movement of market share in some of these newer entities towards Henry Schein. And I would say that our core business in the small practitioner arena is quite stable, and so the growth is coming from this investment we started making a few years ago in that area and also I would say from some of the specialty areas that I think we're gaining market share. It's just a matter of focus. But I don't think it's from the introduction of any major product offering per se. On the Animal Health, it's a little different. I think we said this on prior calls. When looking at the Animal Health area, there's a couple of things you have to take into account. First, you've got to x out the large animal side in North America in particular. I don't think it's that important in Europe, but you have to x -- because Europe, we have a little bit of that, but the mix is not as profound as in the U.S. So in the U.S. when you look at the market growth of Animal Health, please take out the large animal health component and look at us from a pure companion animal point of view. Then the second thing is you need to look into a whole agency to full value sales GAAP accounting methodology, and there was some switch this quarter between agency sales to full reflection of the value of the sale from a GAAP accounting point of view, not material but some. That was to some extent offset by the loss of a prescription diet manufacturer that moved towards going direct and not working through distribution. And then I think the big swing is the whole Trifexis addition because that is an addition of a fully booked sale versus the competition to Trifexis, which I believe is an agency-booked sale. So you take all of that out. I think the market is probably growing somewhere around 2% to 5%. It's impossible to give specific data. There are about -- we set our board meeting for Butler Schein yesterday, and there's about 5 or 6 or 7 indexes and all of them are a little bit all over the place. Having said that, I think it's fair to say the market is growing at least 2% and it's not much more than 5% on the companion animal side. So the gain is related to a lot of what I just described, plus we are gaining market share. I think the fact that our sales organization is settled, our management in the field is settled, the offering is settled, commissions are settled. We have, I believe, the best value-added service offering in the marketplace. Our 2 software systems are doing well. The morale is great. And when an organization is winning, it's winning and it leads to more success. So I would say that our Butler Schein business in the U.S. is doing extremely well in gaining market share, although it's modest market share growth. And a lot of the other things I know that need to be taken into account in evaluating the performance of the business relative to market share growth. Again, I think it's probably not the best place on this call to go through this. But for those investors that have specific questions, I'm sure Steven will take you through the details. But it's quite complex, so we set it out in our Butler Schein Board meeting yesterday, and we spent at least 45 minutes trying to figure this all out. And it is very complex. And I think there are all sorts of dialogue on the Wall Street on this area that's not quite accurate.

Glen J. Santangelo - Crédit Suisse AG, Research Division

All right. I appreciate those details. Maybe if I could ask you, Stan, one more follow-up. I was kind of curious about your comments you made with respect to some innovation within the scanner industry. It kind of sounds like with this new kind of 3M relationship, that's a new strategy I guess for Henry Schein. Does it -- are you worried about it sort of cannibalizing maybe your relationship with E4D in terms of front-end scanning? And you mentioned it's at a pretty interesting price point. Are you willing to share what the price point is of that new scanner and how do you think that maybe sort of disrupts the competitive continuum within that space?

Stanley M. Bergman

The first thing is I want to be very, very, very careful to start a competitive dialogue through Wall Street analysts between one manufacturer and another, so -- because we have seen this in dentistry. It's a very small industry and all sorts of positions can be taken by analysts, and it's not a good thing. It's not good for the dentist and it's not good for our industry. First, let may lay the philosophical background. Henry Schein has been in the solutions business for years and years and years. Over 2 decades ago, we saw that there was an opportunity in the practice solutions in the software area. There were 800 or 900 different systems in the early 90s. Henry Schein backed one, Easy Dental, and whether it was the best software or not, I can't tell you. But what I can tell you it was the best solution and I think we brought automation to the dental office. We then did the same in the electronic record medical arena for dentists with the Windows product of Dentrix. Whether it was the very best software or not, I cannot tell you. But what I can tell you it was the best solution. And supported by Henry Schein, having helped this simplified way of viewing it but a help that’s available to practitioners and making automation of the practice easy. It's the same philosophy we have on the practice solutions area. We implemented. We outlined and installed a practice solutions -- global practice solutions enterprise about a year ago, and we've taken some of our best managers, and I covered that in the last call, and put them into this area. We are more interested in the solution than any one's particular software or any one's particular hardware. At the end of the day, we want to bring the digitalization of the impression and related prosthetic activity, whether its movement of data to a laboratory or movement of data chairside, moving of a crown or bridge, whether it's in a traditional prosthetics area or in the implant area. The total solution is what we are interested in. And that's what we have built our dental business around. So having said that, at this moment in time, there are 3 broad areas to be focused on, amongst other things. There is the scan, there is the software and there is the mill for chairside and also having applicability in the laboratory space. We are working with many manufacturers, some manufacturers in one country, some manufacturers in another country. And at the end of the day, our job is to bring the total solution. In this context, we have been working with 3M for a long time. We also work with other manufacturers in Europe, for example. But then you asked about 3M, particularly. 3M has invested in a scanner, but 3M has also invested in D4D. We about 1.5 year ago, could even be 2 years ago, started dialogue with 3M to see if we could take their scanner and integrate it with the D4D software, which will turn this integrator with a mill. And we've brought together I think what is a terrific offering at a great price point. But for the scan we think that the D4D software is quite advanced, I don't want to get into a debate if it's better for worse. It's best to ask a dentist that question or visit the greater New York meeting and make your own assessment. But we think it's a pretty good system and it may even be the best in certain regard. Certainly, the mill is very, very solid as well. And again without getting into debate through Wall Street, I think it's one of the best systems out there, if not the best for the chairside. We also offer a whole series of laboratory hardware and software, so we are focused on the solution. We will sell -- we will drive towards open technology. That is our philosophy. It's always been our philosophy. And those that want to connect to our system can connect. And those that don't want you, we believe in the end will either connect or they will have challenges because the marketplace has to dictate and not the manufacturer. So we will be open to technology and work with any manufacturer that will work with us. Our goal is to provide the best solution for the office-based practitioner for the whole prosthetics arena and, of course, tying their prosthetic solutions into our practice management software systems at a practice solution systems, in this country, Easy Dental; SOE aboard, et cetera, et cetera. Now you asked about the price of the 3M units; I don't know what it is exactly. But I think it's $10,000, $12,000. I'm not sure if the price per se is relevant. It's on the lower end relative to the quality, but when you go to the IDS show this coming year, my guess is you'll see 50 different kinds of scanning devices, maybe even more. And Henry Schein has to bring the best units to market for our customer, so that we can come up with the very best solution. And it's less about the particular device and more about the solution.

Operator

Your next question comes from the line of David Larsen with Leerink Swann.

David Larsen - Leerink Swann LLC, Research Division

Steve, the SG&A cost this quarter came in better than what I was looking for and it looks like a pretty decent sequential decline. Can you just comment on that? Is there any streamlining going on between North America and Europe distribution?

Steven Paladino

Sure. David, there was. Remember, we did some restructuring activities, and we are getting now the benefit of the restructuring activities, so that's, I think, the driver. We're also -- given the economic times, we're also really looking to manage our expenses very tightly. We don't have any hiring freezes or things like that, but we really justify any new hire that comes on board. We really want to make sure that we're not having our expense structure get ahead of market growth and sales growth activity, so it's really a combination of the restructuring and really trying to manage expenses very tightly, so it's both activities. And we're hopeful that we'll continue that into the next year as we do think the economic climate will continue to be choppy and difficult.

David Larsen - Leerink Swann LLC, Research Division

Great. And then also, your global technology growth rate, 11.2%, can you just talk about that? Are you seeing any continued benefit from the high-tech act like some of the doc offices? Or is that being driven mainly to practice management solution sales of dental offices. Could you just touch on what drove that growth rate, please?

Steven Paladino

Sure. It's really not on the medical side related to EMR. We have a small business there, so it's really -- it's not that. It's really driven by our dental business, as well as we included in the value-added service part of the technology our financial services business. Both of them had very strong growth. On the technology side, it's really not driven by new units. It's really driven by additional recurring revenue activities, annual technical support, claims processing, credit card processing, things like that, billing for our customers' patients. So really, we like that because it is on the recurring revenue side and it's both domestic as well as international. And you know, if you look historically, we've had very strong growth in this area for a number of quarters. And we do expect it to continue given our platform of users, where we have really the largest global platform of users in the dental, medical and animal health -- excluding medical. Medical, there’s some bigger ones. But in dental and animal health, we certainly have the largest user base.

Operator

Your next question comes from the line of Robert Jones with Goldman Sachs.

Robert P. Jones - Goldman Sachs Group Inc., Research Division

So Stanley, it sounds like, if I'm hearing you correctly on this call, maybe a little more focused on M&A in Medical internationally. If I look domestically, the most fragmented market across your businesses to me would seem to be Medical. And obviously, in light of the proposed acquisition in that space, I was wondering if maybe you could just comment on your appetite for consolidation or your view on consolidation of the medical distribution space, particularly in ambulatory here domestically.

Stanley M. Bergman

Yes. I think we are and have been committed a couple of decades now to continuing to consolidate all 3 markets: dental, medical, animal health and of course, together with value-added services, in this country and abroad. So we will continue with our strategy of acquisitions, I think we do about 20 a year, and we also will continue with our strategy of focusing resources on those areas in these markets that we think lend themselves towards internal growth. We have a very good strategic plan that we started with from January 1, 2012. And at the end of 2014, I think we know exactly what we're going to do. We've got our 3 business groups: Dental, Medical, Animal Health, as well as our practice management -- Value-Added software businesses focused on global agendas. And in that regard, I think you can expect acquisitions across the board in this country and abroad, all in pursuit of advancing the office-based practitioner business and the ambulatory business that we are focused on. I don't think we're going to stray beyond that. We may enter into dialogue and alliances with different people, but that's what we're going to focus on.

Robert P. Jones - Goldman Sachs Group Inc., Research Division

That's helpful. And then Steve, if I could maybe just ask one a little bit around the outlook. I just wanted to see if you would be willing to share a little bit more segment-level detail behind the guidance, maybe even qualitatively. As I look at Dental specifically, this year looks like you're on pace for global internal sales growth somewhere around 3%. I was wondering based on what you're seeing today how you're expecting that to trend as we move into 2013.

Steven Paladino

Sure. Dental, I wouldn't say any major changes in dental, although we are trying to be cautious in our outlook in European dental, especially in some markets like Italy, which are going through some difficult times. I would say, when you look at Dental, Medical and Animal Health businesses, I think you'll see similar growth rates that we're expecting as over the last couple of quarters that we've gotten. There may be some minor upticks and downticks individually, but I think from a trend perspective, very similar to what we've seen over the last couple, few quarters.

Operator

We do have time for one more question from the line of John Kreger with William Blair.

John Kreger - William Blair & Company L.L.C., Research Division

Just expanding on Bob's question. Steve and Stan, if you look across your 3 major segments, other than Italy, are you seeing any other areas where you're noticing there's deterioration or maybe even strengthening, particularly in Dental?

Stanley M. Bergman

Yes, I think it's sort of mixed bag, John. I don't think there's anything that's really bad other than Italy. And I don't think there's anything that's really, really good other than perhaps China. So the middle is somewhere around flat to slightly positive. So if you look at our European business, you'll see that the consumables were up by 3.4% internal growth. That definitely takes into account that we're gaining market share. Whether the market is growing by 1% or so percent, I can't tell you because the data's not available but it's not growing by 3%. And I don't think its aggregates are going backwards on the consumables side. So I think France is okay. The U.K. has challenges. We covered that before. I think we're gaining market share there. And Germany on the consumable side is okay. I think we should be more or less okay going for the balance of this year. But generally, the market on the equipment side kind of freezes until the IDS and then picks up again. That's just the way the German market works. Of course, Spain is terrible, but it's been terrible for a while, so the comparables are not that bad. There's some odd things going on in the Netherlands relative to reimbursement. I think that should be sorted out. And Australia and New Zealand, it's a funny economy. It's bifurcated. There's a part of the economy that does very well because of the commodities. In that part, we're doing well. The high-end dentists are doing quite well. And then you've got the part of the economy where people are just not keeping up because of whatever it is -- lack of employment, et cetera. And so dentists in those parts of Australia are not doing well. New Zealand is okay. And so as I'm thinking through the world, I don't see any areas that are particularly bad other than, as you pointed out, Italy and Spain. And I don't think there's any booming areas really. Canada's okay. It's been okay throughout the recession period, and so if you look at Animal Health, I think we grew internally. It's something like 6% outside of the U.S. That's definitely a growth in market share. That's definitely not the rate of growth in those markets, again the markets may be growing at 1/2 that number. So overall I think we're gaining market share. And the markets we're in are, I mean, positive territory but not hugely positive.

John Kreger - William Blair & Company L.L.C., Research Division

That's really helpful, Stan. One last question. I don't think you've kind of talked about how the specialty dental markets are performing relative to the general dentistry. Are you seeing any interesting changes there?

Stanley M. Bergman

Yes. So of course, Henry Schein can't be a gauge because our market share is relatively small. But I do think, at least in the third quarter, from what our management is telling us, is that orthodontics and implants did not do well as a market. I’m just referring to Henry Schein, and even the endodontic to some extent. There was some kind of a malaise in that area in the third quarter. At least, that's what our management is telling us. We're not the biggest player. But in aggregate, we started to have several hundred million dollars of business. So I think we can talk with a little bit of authority, but we are by no means a big player in any of those markets. In specific countries like Germany in implants, we are a big player. And in endodontics in the U.S., we're a pretty good player. But generally, I don't think we are impacted that much by the economics in those particular sectors rather than the impact of a relatively small market share gaining market share. So we end up in the positive territory by and large, but having said that, I think the underlying market is not necessarily doing that well. At least, that was in the third quarter, and I think we're a little more optimistic in the fourth quarter from a market point of view. Sorry, we ran out of time. So thank you, all, for your questions. I think Steven's available at (631) 843-5915. I don't call the number that much anymore because you can walk into my office, and Susan at 5562. And of course, as usual, we'd be very pleased to entertain specific questions from those who are interested in our business. We remain optimistic about the business. Hopefully, now that we’ve left the U.S. elections behind us, there will be certainty and it will be perhaps a bit more economically positive environment. Sandy did have, of course, an impact on the business; not material. Our overall sales seems to be holding up, but I think on the one hand, I think patients are going to have a challenge going to see some doctors. But on the other hand, there will be more investment in equipment going forward. So we don't know the full impact. It's not going to be material to Henry Schein as a company, but there will be I think some impact on specific businesses and specific locations. So we're very excited about the company. We're executing well through our strategic plan. The morale is good, and I look forward to seeing some of the people on this call at the greater New York meeting at the end of this month. And if not, have a good balance of the year and a happy holiday season. Thanks.

Operator

Thank you for your participation. This does conclude today's conference call. You may now disconnect.

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