Danaher Corporation (NYSE:DHR)
Q3 2014 Earnings Conference Call
October 16, 2014 08:00 AM ET
Matt Gugino – VP, IR
Tom Joyce – President and CEO
Dan Comas – EVP and CFO
Scott Davis – Barclays
Nigel Coe – Morgan Stanley
Steven Winoker – Bernstein Research
Steve Tusa – JPMorgan
Jeff Sprague – Vertical Research Partners
Julian Mitchell – Credit Suisse
Richard Eastman – Robert W. Baird
Isaac Ro – Goldman Sachs
My name is Debby, and I will be your conference facilitator today. At this time, I would like to welcome everyone to the Danaher Corporation Third Quarter 2014 Earnings Results Conference Call. Today’s call is being recorded. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. (Operator Instructions).
I will now turn the conference over to Mr. Matt Gugino, Vice President of Investor Relations. Mr. Gugino, please begin your conference.
Matt Gugino – VP, IR
Thanks Debby. Good morning, everyone, and thanks for joining us. On the call today are Tom Joyce, our President and Chief Executive Officer and Dan Comas, our Executive Vice President and Chief Financial Officer.
I’d like to point out that our earnings release, a slide presentation supplementing today’s call, our third quarter Form 10-Q and the reconciling and other information required by SEC Regulation G relating to any non-GAAP financial measures provided during the call are all available in the Investor section of our website, www.danaher.com under the heading Financial Information-Quarterly Earnings and will remain available following the call.
The audio portion of this call will be archived on the Investor section of our website later today under the heading Investor Events and will remain archived until our next quarterly call. A replay of this call will also be available until October 23, 2014. The replay number is (888) 203-1112 in the U.S. and (719) 457-0820 internationally and the confirmation code is 9389793.
During the presentation, we will describe certain of the more significant factors that impacted year-over-year performance. Please refer to the supplemental materials and our third quarter Form 10-Q for additional factors that impacted year-over-year performance.
Unless otherwise noted, all references in these remarks and accompanying presentation to earnings, revenues and other company-specific financial metrics relate to the third quarter of 2014 and relate only to the continuing operation of Danaher’s businesses, and all references to period-to-period increases or decreases in the financial metrics are year-over-year.
I would also like to note that we are making some statements during the call that are forward-looking statements within the meaning of the federal securities laws, including statements regarding events or developments that we believe or anticipate will or may occur in the future. These forward-looking statements are subject to a number of risks and uncertainties, including those set forth in our SEC filings.
It is possible that actual results might differ materially from any forward-looking statements that we make today. These forward-looking statements speak only as of the date that they are made, and we do not assume any obligation to update any forward-looking statements whether as a result of new information, future events and developments or otherwise.
With that I’d like to turn the call over to Tom.
Tom Joyce – President and CEO
Thanks Matt and good morning everyone. We are pleased with the quarterly results we announced this morning. Earnings came in above our expectations, thanks to the Danaher teams’ very strong execution.
Danaher Business System continues to drive superior margin expansion, increase cash flow and healthy top line performance in a modest growth environment. The investments we’ve made in innovation and expansion in high growth markets drove share gains in many of our operating companies. Fluke, Hach, Veeder-Root, Radiometer, AB Sciex, Implant Direct and Esko are among the businesses that we believe outperformed relative to their markets during the quarter.
These share gains and the teams’ execution also helped drive more than 85 basis points of core operating margin improvement in four of our five segments. Our cash flow performance is also very good, resulting in free cash flow to net income conversion ratio of a 128%.
We are encouraged by our increased M&A activity of late, as we’ve announced $3.3 billion of deals across our portfolio in the first nine months of the year. These acquisition will strengthen our dental, life science and diagnostics, environmental and Test & Measurement segments.
Cultivation funnels across our portfolio remained full, giving us confidence in our ability to deploy our substantial M&A capacity in a strategic and disciplined way. So with that as a backdrop, let’s get in to the details of the quarter.
This morning we reported diluted net earnings per share of $0.95, up 13% and representing another record third quarter for Danaher. Revenues grew 4.5% to 4.9 billion, with core revenues up 3%. The positive impact of acquisitions increased revenues by 2%, while currency translation reduced revenues by 50 basis points.
Geographically, high growth markets led the way increasing high single digits. Despite the headlines in China, our businesses grew double digit, led by our T&M Instruments, Gilbarco Veeder-Root, Diagnostics and Dental platforms. Developed markets remained relatively stable and the US and Western Europe both grew low single digits.
Our gross margin expanded 80 basis points or approximately a $140 million to 52.7%. This increase in gross profit enabled us to increase our sales and marketing and R&D by nearly 60 million in the quarter and deliver 70 basis points of core operating margin expansion.
Turning to our five operating segments, Test and measurement revenues increased 1.5%, while core revenues decreased 1%, primarily due to a decline in our communications platform. Reported operating margin declined a 170 basis points, while core operating margins decreased a 115 basis points.
On Monday, you saw that we announced an agreement to combine our communications business with NetScout Systems to create a premier global provider of network management solutions for both carrier and enterprise customers.
We are excited about this transaction which is the culmination of a multi-year discussion with NetScout about working together. This is a powerful opportunity to combine highly complementary businesses in a transaction that we believe will benefit all Danaher and NetScout stakeholders, associates, shareholders and customers alike.
Danaher’s premier troubleshooting, cyber security, and engineering solutions combined with NetScout’s high performance monitoring technologies will give customers access to the most expansive suites of best-in-class product in the industry.
The combined company will offer even greater breadth and depth across both carrier and enterprise networks, expanding opportunity through innovation and growth and improving our customers overall experience.
We anticipate that this transaction will close in 2015, subject to customary closing conditions, including regulatory NetScout shareholder and other approvals. Upon close, our Executive Vice President, Jim Lico will join NetScout’s Board of Directors, while retaining his responsibility to Danaher.
Now back to the results from the quarter, our communications platform core revenues decreased at a double-digit rate. High teens growth in our security solutions business was more than offset by a decline in network management solutions due to spending delays from a wireless carrier customers, primarily in North America.
Despite the revenue decline, we were encouraged by the positive order growth in the platform that we believe will continue for the remainder of the year.
At Arbor demand for Pravail enterprise security products grew more than 50% as IT Security customers continue to rely on Arbor to prevent and mitigate attacks on their networks.
Around the world conducting business has become increasingly virtual, and Arbor is responding with flexible solutions to help customers of all sizes quickly and cost effectively launch or expand best-in-class security solutions.
Fluke Network saw robust demand for its enterprise TruView system and portable network tools which were each up 15%. F Net’s TruView system continues to receive industry recognition and we are honored with the 2014 Communications Solutions Product of the Year Award from the global media company, TMC.
Our instruments platform core revenue increased at low single-digit rate with growth in most major geographies. Fluke core revenues were up mid-single digits representing its highest quarterly growth rate in over three years. Growth was solid across most major product lines, led by calibration and biomedical which each increased double-digits.
Distribution [sell-out] [ph] remained strong globally, particularly in North America and China, where growth was mid-single digit or better. Fluke plans to build on this momentum by launching Fluke Connect in China later this month.
At Tektronix core sales were up slightly, with modest growth in point of sales in North America and healthy demand for power supplies and oscilloscopes in China.
Turning to our environmental segment, revenues increased 10.5% with core revenues up 5%. Segment core operating margin improved 85 basis points with reported operating margin down 30 basis points due to the dilutive effect of recent acquisitions. Water quality core revenues increased at a mid-single digit rate with strength in analytical instrumentation and chemical treatment solutions.
Hach executed well in a temperate municipal spending environment driving above market growth in both North America and Europe. Sales also healthy in China growing double-digits. This month, Hach will launch the SL1000 Portable Parallel Analyzer or PPA, a breakthrough system that dramatically streamlines water quality testing.
The PPA system is the only testing solution in the market that uses a disposable cartridge to improve ease of use and reduce the manual steps by over 50% in an EPA compliant drinking water testing environment. Importantly, it provides technicians of all experience levels with a fail safe way to achieve highly accurate and consistent results.
In Trojan demand for large municipal projects remain weak globally. Encouragingly, we received two Ballast Water Treatment system orders that will be installed in a total of 15 ships. We anticipate the delivery of these systems will start in the second half of 2015.
On the regulatory front, we received Alternative Management System or AMS acceptance from the US Coast Guard for a full suite of UU ballast water treatment product in July, this is a temporary designation that allows customers to use Trojan solutions in US waters, while our application for US type approval is pending.
Gilbarco Veeder-Root’s core revenues grew mid-single digits with real robust demands for our dispensers, vapor recovery products and point-of-sales solutions. Vapor recover sales grew more than 50% in China as businesses continue to work towards compliance with environmental regulations.
In point-of-sale, North American customers are choosing GVR’s reliable and affordable payment security solutions as they operate their systems in advance of the new EMV regulations that begin to take affect in 2015.
In the quarter, Gilbarco Veeder Root acquired FuelQuest a leading provider of fuel management solutions for suppliers, distributors and buyers of petroleum products. This acquisition further expands the capabilities of our Insite360 cloud-based fuel management platform by allowing our customers to remotely monitor fuel acquisition, planning and distribution.
Moving to life sciences and diagnostics; revenue increased 4% with core revenues up 3%. Core operating margin was up 120 basis points, while our reported operating margin increased 100 basis points. Core revenues in our diagnostics platform grew mid-single digits.
At Beckman Coulter, core revenues increased a mid-single digit rate with double-digit growth in immunoassay, urinalysis, and automation. Growth was particularly strong in China where revenues grew over 20%. Beckman received FDA 510 clearance for its Power Express Sample Processing System in the quarter, further expanding its world-class suite of automation products.
The Power Express is a scalable, high speed system designed to automate sample processing in labs of all sizes across all core disciplines including chemistry, immunoassay and hematology. The Power Express is just one of several new FDA cleared solutions that will help our US customers improve efficiency and reduce turnaround time for critical diagnostic tests.
Radiometers core revenues increased at a mid-single digit rate, led by more than 35% growth in AQT sales. High growth market sales were up more than 20% as we continued to expand our market position in China.
Leica Biosystems core sales were up low-single digits, as mid-teens growth in high growth markets was offset by weakness in core histology instruments in Europe. Advanced staining instrument placements were particularly strong as revenues increased over 20% in the quarter. We expect our advance staining growth rates to remain healthy, as our growing installed base continues to drive sales of reagents and other consumables.
Core revenues in our life science platform grew at a low-single digit rate, compared to high-single digit growth in the third quarter of last year. Sales in the US and Western Europe were positive, but we continue to experience uncertainty in tender timings and funding in China.
AB SCIEX core revenues grew mid-single digits with strength in academic, clinical and applied markets. We continue to expand our in vitro diagnostic offerings by launching the Triple Quad 4500MD and QTRAP 4500 systems. 4500 series offers greater flexibility, exception sensitivity and faster data acquisition affording doctors and patients quicker access to reliable and accurate diagnostic test results.
Leica Microsystems core sales increased low-single digits. Our SP8 microscope continues to be very well received and drove double-digit growth for our Confocal microscope systems.
Last Wednesday, the Nobel Prize in Chemistry was awarded to three scientists including Leica long time collaborator and key opinion leader Professor Stefan Hell. Professor Hell and others were recognized for their work in developing a way to use optical microscopy to study the molecular processes in the living cells.
This work is especially meaningful to Leica, as we collaborated with Professor Hell to commercialize the first microscope that uses this technology back in 2004. Remarkably, this is the fourth year in a row that Leica Microscopes have been sighted in Nobel Prize wining work, and we are honored that our products continue to be used to support this and in other important scientific research.
Turning to Dental, segment revenues increased 3.5%, while core revenues were up 2%. Our core operating margin increased 100 basis points and reported operating margin increased 110 basis points to 17.2%.
The team has done a terrific job in using DBS to drive productivity and improve segment margins over the past several years. In early September, we announced the pending acquisition of Nobel Biocare, premier global brand and a pioneer in dental innovation.
Nobel Biocare has expertise in implant dentistry; digital prosthetics and software combined with our extensive capabilities in 3-D imaging, intra-oral scanning and digital restorative solutions will benefit both patients and dentists by further optimizing clinical workflows.
We believe DBS will make a significant impact on Nobel Biocare’s performance by helping to drive further innovation, growth and collaboration with our other dental companies. We are confident that Nobel Biocare is an outstanding bid for Danaher and we look forward to working with this capable team.
The purchase price of $2.2 billion equates to approximately three times revenues and less than four times gross profit, which we believe positions us well from a return perspective. The acquisition remains subject to customary closing conditions, including regulatory approvals and is expected to close in the fourth quarter of 2014 or the first quarter of 2015.
Dental consumables core revenues grew low-single digits as healthy demand in China and the Middle East was partially offset by a modest decline in the developed markets. In the US, the sluggishness we saw in the second quarter continues.
Encouragingly, demand for our implant products remain robust increasing globally at a double-digit rate. Dental technologies core revenues were up mid-single digits, driven by demand for our dental hand pieces and imaging equipment globally.
In mid-September, we introduced the newest member of our family of Cone Beam 3-D imaging products, the i-CAT FLX MV for a medium field of view. The FLX MV allows dentist to capture a high resolution, lower radiation 3D image of the upper and lower piece.
Our Tx STUDIO 5.3 software is also integrated in to the FLX allowing dentist to both scan patients mouth and prepare a full digital treatment plan from one location on a touch screen.
In our Industrial Technology segment, revenues increased 2% while the core revenues were up 4.5%, core operating margin expanded 145 basis points and reported operating margin increased a 170 basis points to 24.3%. Motion core revenues increased a low-single digit rate, marking the second consecutive quarter of growth to the platform.
Demand in the high growth markets was particularly strong, led by industrial automation in China. During the quarter, we completed the divestiture of our electric vehicle systems and hybrid product lines which had annual revenue of approximately $100 million.
Core revenues in our product identification platform grew mid-single digit as Europe and the Middle East both thus saw double-digit growth. At Videojet core revenues grew mid-single digits, as a growing installed base of equipment and solid execution in service help drive high single digit after market revenue growth.
During the quarter, Videojet launched its 1000 series of continuous inkjet printers. These printers featuring extended life printing core that reduces down time and enables customers to print almost continuously for five years.
Esko also experienced robust demand in the quarter, with double-digit growth in our workflow automation software and digital imaging products. In September, Esko released its new packaging design and workflow automation software Suite 14.
This comprehensive set of software tools helps brand owners interact with their global supply chains in the cloud in proving efficiency and control at every stage of the packaging, design and pre-production process. The reception of Suite 14 has been exceptional and over 1,000 customers have already upgraded since launch.
So to wrap up, the Danaher team executed well this quarter, using the Danaher business system to expand margins, generate strong cash flow performance, and deliver higher than expected earnings. Across the portfolio our outstanding presence in high growth market, investments in innovative new products and focus on improving sales and marketing have helped our businesses continue to take share in their markets.
As we plan for 2015, we remain mindful of the challenging macroeconomic outlook, including the recently strong dollar. Thus, we are continuing to invest in high-impact areas while also increasing spending on productivity initiatives to approximately $125 million in the second half of 2014.
We believe our focus on growth investments and margin expansion combined with our robust balance sheet and M&A capacity position us to finish 2014 well, and drive long term results.
We are initiating fourth quarter diluted net EPS guidance of $1-$1.04, which assumes fourth quarter core revenue growth similar to the first three quarters of 2014. so before we go to Q&A, I wanted to take a moment to share a few thoughts after the first six weeks of my time as Danaher’s CEO.
When this transition began, I knew that Danaher’s future was bright. I believe it’s now firmer than ever. The caliber of our team, the depth of incredible talent, that deep commitment to DBS and our culture is second to none. Financially, our balance sheet has never been stronger, much as we have done in the past, and more recently with the $3.3 billion, we have committed so far this year, I look forward to channeling this strength to build upon our leading portfolio of companies.
At Danaher, we compete for shareholders and that is on the top of my mind everyday. We continue to look for smart ways to create value for our shareholders and other stakeholders such as this week’s announcement regarding the combination of our communications business with NetScout, the recent divestiture of our electric vehicle and hybrid motor product lines, and our pending acquisition of Nobel Biocare.
As you know, we’re always in the process of evaluating portfolio and our focus will be on acquiring smartly, partnering smartly and managing smartly. Lastly, our teams culture of continuous improvement using Danaher Business System will remain our primary focus, because that is who we are and that is what truly defines our competitive advantage.
Matt Gugino – VP, IR
Thanks Tom. That concludes our formal remarks, and we’re now ready for questions.
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