Q3 2020 IDEXX Laboratories Inc Earnings Call

Quarter 2020, <unk> earnings conference call.

A reminder, today's conference is being recorded participating in the call. This morning are Jay Mazelsky, President and Chief Executive Officer, Brian Mckeon, Chief Financial Officer, and John Roberts Senior Director Investor Relations.

Next I'd like to profit discussion today with a caution regarding forward looking statements listeners are reminded that our discussion during the call will include forward looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those discussed today.

Information regarding these risks and uncertainties is available under the forward looking statements notice in our press release issued this morning as well as in our periodic filings with the Securities and Exchange Commission, which can be obtained from the FCC or by visiting the Investor Relations section of our web site <unk> Dot com.

During this call we will be discussing certain financial measures not prepared in accordance with generally accepted accounting principles or GAAP Iraq.

A reconciliation of these non-GAAP financial measures to the most directly comparable GAAP measures is provided in our earnings release, which May also be found by visiting the Investor Relations section of our website.

In reviewing our third quarter 2020 result, please note all references to growth organic growth constant currency growth in comparable constant currency growth refer to growth compared to the equivalent period in 2019, unless otherwise noted.

While broad participation in the Q1 day, we ask that each participant limit his or her questions to one with one follow up as necessary. We appreciate you may have additional questions. Please feel free to get back into the queue and if time permits we will take your additional questions I would now like to turn the call over to Brian again.

Good morning, everyone.

Our next delivered excellent financial results in the third quarter, reflecting continued strong gains in our CAG business globally.

In terms of highlights revenue increased 19% as reported an 18% organically supported by 21% organic growth in CAG diagnostics recurring revenue.

<unk> CAG diagnostics recurring revenue growth was high throughout Q3 building on the strong global trends, we saw in our CAG business in Q2.

For Q3 year to date, CAG diagnostics organic recurring revenue growth increased 12.8%, reflecting the extraordinary global resilience or demand for companion animal health care.

Well, it's her benefits from high recurring revenue growth drove a 470 basis point improvement in comparable constant currency operating margins in the quarter, enabling delivery over dollar 16 on an earnings per share an increase of 47% on a comparable constant currency basis.

In Q3, we recorded a 27.5 million or 24 cents per share accrual related to an ongoing litigation matter Arkansas.

Our comparable constant currency operating margin improvement metrics and comparable constant currency EPS growth rates exclude excluding impacts from this charge.

As well as by approximately 1% of growth benefit from our opt to human COVID-19, PCR Test initiative.

Overall gains were moderated by constraints on new IDEXX, Vetlab and diagnostic imaging instrument placements and moderate organic declines in water revenues, though trends on these fronts improve solidly compared to the second quarter.

As noted CAG diagnostic recurring revenue gains sustained at high levels through the third quarter reflected in approximately 24% organic growth in July and growth of approximately 20% combined in August and September.

CAG growth dynamics remain healthy across regions in Q3 led by very strong gains in the us and higher organic growth in other key markets, such as Canada, and Australia aided by fulfillment of pent up wellness demand.

Revenue growth in Europe, and other key Asian markets was also strong in the quarter reinforcing the broad global recovery in our CAG business.

For the year to date CAG diagnostics recurring revenue growth has increased 13% in the us and 12% overall in international markets.

Hi, Greg Hi, CAG diagnostics recurring revenue gains continued to be aided by solid growth in clinical visits as demonstrated in our same store us weekly tracking data published in our earnings snapshot available on our website.

Overall clinical growth sustained at 6% in Q3 supported by continued solid 3% growth in non wellness visits and 11% growth in wellness visits including benefits from pent up demand, which we estimate contributed to the 3% to overall clinical visit gains in the quarter.

As Jay will discuss a factor supporting clinical visit gains is an increase in first time clinical patient visits, which we estimate added approximately 1% to overall clinical visit growth and 2% to wellness visit growth in the quarter.

Perfect growth dynamic for a keg business.

This positive market backdrop supported high Q3 organic gains revenue gains across our major testing modality.

By modality IDEXX Global reference web revenues increased 24% organically in Q3 led by more than 20% growth in the U S and mid teen organic gains in international markets realm.

Relatively higher use means are aligned with higher levels of wellness testing, which has benefited recently from fulfillment of pent up testing demand.

I would activate lab consumable revenues increased 22% on an organic basis, reflecting similar high levels of strong growth in U S and international markets.

<unk> were supported by solid increasing testing utilization across regions improved very high customer retention levels and continued expansion of our global premium installed base.

<unk> replacements recovered solidly in Q3 as sales access to veterinary clinics gradually increased and clinics look ahead to supporting strong growth in diagnostic testing.

While improving from recent trends overall placements continue to be constrained to a degree by restricted sales access to some clinics as well as near term clinic work focus on supporting high demand for their services.

These factors contributed to a 3 million dollar or 10% year on year decline and reported keg instrument revenue for the quarter.

The quality of keg instrument placements remained high reflected in 303 catalyst placements at noon competitive counts in North America, and 860, new uncompetitive placements in international markets.

We also benefited from 372 second catalyst placements driven by momentum with North American customers.

These new placements and high customer retention levels supported a 15% year on year growth in our global kettles installed base.

We also achieved 978 premium hematology placements and 495 set a few placements, bringing our global set of you installed base to over 10000 instruments of 22% year on year.

Rapid rapid as a revenue increased 20% organically in Q3, driven by high growth in the US supported by pent up demand for wellness testing.

Q3 year to date rapid as he organic revenue growth was 6% driven by continued solid volume gains for 40 X and specialty testing.

Overall keg diagnostic revenue growth remains primarily volume driven with consistent net price gains of 2% to 3%.

And other areas of our keg business or veterinary software and diagnostic imaging revenues increased 4% organically overall.

Double digit gains in recurring certain recurring service revenues and strong increases and new software system placements supported by the fulfillment of outstanding backlog voters were moderated by lower diagnostic imaging system placements compared to strong prior to levels.

Turning to our other business segments water revenues declined 4% organically in Q3 impacted by pressures of noncompliance related testing, which represents about 20% of water revenues.

As noted in our queue two earnings call. The vast majority of our water testing volumes are compliance related or mandated by government regulations and these volumes have sustained as an essential service.

We expect uneven demand related in.

Waited to noncompliance testing to persist as we continue to work through pandemic related impacts.

Livestock poultry and dairy revenue increased 18% organically in Q3, driven by strong growth in our Asia Pacific region.

LPT results continue to benefit from strong demand for diagnostic testing programs for African swine fever and improvement in core swine testing volumes in China supported by large producer efforts to rebuild swine hurts.

We're also seeing continued solid growth for poultry testing globally.

These gains more than offset lower heard health screening levels compared to strong prior year results.

We expect to see moderation in our Elpida growth rate moving forward as we begin to allow the benefits of our prior year expansion of our African swine fever testing programs.

Turning to the P&L profit profit results were very strong in Q3.

Benefiting from high keg diagnostic recurring revenue gains and favorable product mix as well as continued benefits from proactive cost management.

These actions supported a 70 basically an improvement and reported operating margins or gains of 470 basis points on a comparable constant currency basis, driving an increase in operating profits of 23% on a reported basis and 43% on a comparable constant currency basis.

As noted earlier, we recorded a 2007 $5 million or 24 cents per share charge related to an ongoing litigation manager matter, which was recorded in G&A and is excluded from our comparable growth metrics.

EPS was $1 69 per share, including benefits of $16 million or 18 cents per share related to share based compensation activity, bringing.

Bringing year to date share compensation related benefits to a much higher than expected $27 million or 31 per share.

As noted on the comparable constant currency basis.

Q3, EPS increased 47% adjusting for these benefits and the impact of the litigation.

Gross profit increased 23% in Q3.

Gross margins increased approximately 200 basis points on a.

On a constant currency basis, reflecting solid productivity improvement in our lab operations supported by over 20% organic revenue growth as well as favorable net mixed benefits from strong consumable sales and lower instrument revenues and benefits from moderate net price gains.

Foreign exchange hedge impacts, which are recorded in gross profit reflected a 1 million dollar loss in Q3 and $3 million of gains year to date.

Recent FX rates would indicate a modest favorable year on year revenue growth rate impact for Q4, and 2021 with profit benefits mitigated by previously established hedge positions.

Operating expenses in Q3 increased 22% on a reported basis and 9% on a comparable constant currency basis, excluding impacts from the litigation accrual.

Q3 operating expenses included a 10 million dollar investment related to the funding of the newly established donor advised fund the IDEXX Foundation, which Shay will discuss in his comments.

As noted on our last call align with a strong recovery and global keg demand, we're advancing targeted new hiring and prioritized investments and supportive or a longterm growth strategy, including augmentation of our international commercial capability.

We also expect incremental R&D costs in queue for as we advance final steps ahead of the Procyte one launch.

And expect employee health care and dental cause claims to increase as individuals seek previously deferred healthcorp care.

Overall, we anticipate sustaining a relatively higher rate of opex growth moving forward as we support our solid growth trends.

In terms of cash flow, we've generated 300.

$336 million in positive free cash flow year to date.

And trailing on a trilling 12 month basis, our net income to free cash flow conversion rate was 90% or 96% adjusted for our investments in our Westbrook headquarter expansion in German lab room relocation, which are now complete.

Our balance sheet is in a very strong position aided by the exceptional financial performance. We saw on the three and the steps we took to enhance our liquidity and flexibility earlier in the year.

We ended the quarter with leverage ratios of one two times gross and one times net of cash with $176 million in cash and no borrowings in our 1 billion revolving credit facility.

We do not allocate capital of share repurchases in the quarter.

Given our strong business results in positive cash generation and our confidence in the strength of the keg market recovery, we will be looking at re initiating share repurchases in the future align with maintaining a prudent capital structure.

Overall, we're very pleased with a strong momentum and high level of operational execution demonstrated in our business in Q3.

IDEXX continues to show that we have a great business model and an amazing market with tremendous resilience and long term growth potential.

I will now turn the call over to J burgers governments.

Thank you, Brian and good morning.

I would ask delivered exceptional performance in Q3, driven by sustained strong underlying market trends in our global keg business.

Hi, Keg diagnostics recurring revenue gains were supported in part by pent up demand for health care services as well as a continued overall shift towards a provision of more veterinary services. The services are often enabled by a higher youth and intensity of diagnostics did.

Delivering excellent patient care is the key value proposition, a veterinarian and to treat they must first diagnosed.

Proprietary IDEXX diagnostics plays an important role in this paradigm.

We've continued to see a clear v-shaped recovery and companion animal healthcare and these trends point toward a potential sustained level of accelerated growth for diagnostics testing.

Let me start with a brief update on our market trends, including observations on how our customers are adapting and review the exceptional execution of our commercial organization and engaging and supporting them.

As Brian noted, we've seen solid growth in same store clinical visits in key markets like the U S as well as sustained strong recovery clinic demand across our international markets.

A factor supporting these results has been pent up demand for pet healthcare, evidenced by 11% growth and wellness visits in Q3.

We began to see some moderation and he is very high growth levels, while non wellness visits, which we estimate account for approximately 60% of overall clinical visits.

And approximately 70% or more of related diagnostic revenues continue to expand at a healthy 3% right.

Many pet owners, just like a significant number of IDEXX employees continue to work from home and are spending significantly more time with their pets were likely more attuned to their wellbeing, resulting in higher practice visits these.

These trends further reinforce the strong global recovery and health of our markets.

As we work through the market recovery additional factors are emerging which have supported very high growth levels and keg diagnostics recurring revenue.

Veterinary clinics appear to be increasing their standard of care at an accelerated pace evidence of this can be seen any average percentage of U S clinical visits they use diagnostics. This.

This averaged approximately 45% in Q3 of 2019.

While in Q3 of 2020 this metric was approximately 200 basis points higher.

To put this higher step up in contact an average 50 basis point per year increase was more typical in recent years.

Not only do more visits include diagnostics, but the intensity is measured by revenue has also increase growth in average diagnostics revenue per visit in the U S has increased to approximately 6% year to date compared to 4% growth in recent years.

Pandemic workflow procedures like curbside drop off and the desire to take a more comprehensive health care approach may be supporting these promising trends.

Diagnostic revenue growth per practice continues to expand as a result of these factors U S companion animal diagnostics revenue growth per practice increase the 10, 5% in 2020.

Compared to approximately seven 5% over the last five years.

This is despite slowing of clinical visits due to the pandemic to 1% year to date compared to a five year average of 3%.

Our expanded commercial presence and focus on supporting the vet practice with innovative technology and insight for practice development continues to drive these favorable dynamics at a steadily improving right.

While we may see some moderation in these trends moving forward. These healthy dynamic to reinforce a potential long term positive backdrop for diagnostics market growth.

Increases in the use of diagnostics speak to the willingness of pet owners to prioritize care for the health and wellbeing of their family members, even turn times of economic uncertainty.

It also reinforces the increasing role of services and the vet clinic business model reflected in an accelerated shift in diagnostics as a percentage of practice revenues.

U S diagnostic revenues as a percentage of total practice revenue reached 16.3% in Q3.

Approximately 100 basis points above prior year levels and compared to an average 25 basis point increase in recent years.

Perfect clinics diagnostic services are one of the most profitable areas in the practice and these trends can help mitigate the impact of accelerated migration a product sales to online channels.

An additional emerging factor that appears to be supporting higher service in diagnostics growth is an increase in first time political patients.

Anecdotally, we've all seen and heard about increased interest in adopting puppies and kittens during the pandemic. While this is a difficult area to measure we are seeing a meaningful increase in first time clinical visits in our market tracking data yeah.

Year on year growth and first time clinical visits measuring through R. U S practice intelligence database has increased an average of 8% year to date with accelerated growth since April compared to approximately 2% year on year growth in recent years as Brian noted, we estimate that incremental.

New patient growth added approximately 1% to clinical visit growth in Q3 overall.

In our own business, we've seen a meaningful step up and the number of U S hospitals running progesterone test an average run levels reinforcing a potential increase in breeding activity. While it's early to project the potential impact from these trends evidence is emerging that there is an accelerated increase in growth in the U S pet population.

While we recognize the potential for future business disruption related to the pandemic. These very encouraging trends are reinforcing our confidence in the long term potential for a keg business.

A commercial organization is at the center of enabling this market development. So next I will highlight key developments in our commercial agenda.

A commercial execution in Q3 was excellent we saw solid continued recovery instrument placements in North America, and an international regions with 3173 premium instrument placements globally, and a quarter, including 1700 catalyst placements with close to 70% and new and compare.

Dave accounts.

Access to practices continue to improve through Q3 with in person visits by our customer account managers now at approximately 50% in person in the U S and approximately 60% in Q3 on average in Europe.

While underlying market demand for diagnostics has remained strong we expect that sales professionals access the veterinary clinics will likely continue to be pressured a social distancing policies and measures to combat the spread of COVID-19 remained dynamic and continue to impact veterinary care.

As highlighted or an investor day, a key multiyear strategy is to scale, our commercial footprint on a rolling basis and targeted international markets.

These expansion efforts reflect a tremendous opportunity is two thirds of the potential total addressable market over time will be outside the U S. <unk>.

Leveraging the commercial playbook, a best practices, we developed through multiple expansion in the U S are international expansion roadmap is tracking to plan and.

In Q3, we successfully launched programmatic programmatic efforts to essentially double our commercial footprint in two important European markets over the coming months, we expect to continue to make great progress on these initiatives through the remainder of the year with all talent hired trained and on boarded by first half of 2021.

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These efforts complement the strong commercial momentum, resulting from investments made over the past several years in Europe. For example, our newly opened and now our largest reference lab in the world and chord West time, Germany is fully functional and providing differentiated menu and excellent service levels across Europe. Additionally.

Hematology is a very important modality internationally in the announcement of Procyte. One has been enthusiastically received by customers finally customers across Europe have embraced our IDEXX 360 program, which was configured to the unique needs of key markets in the region with over 50% of premium instruments place that the quarter using.

I'd X 360, a new high.

The combination of innovations like Procyte, one corner west time, and <unk>, coupled with an expanded commercial footprint and select countries are key elements of our growth strategy.

Growing enrollment and engagement any IDEXX preventive care program is a key focus for our commercial and corporate accounts team in the second half of the year.

Program results were covered in Q3 with strong adoption of the IDEXX preventive care program with approximately 230, new enrollees in the quarter supported by sustained high wellness visits traffic.

This brings our total enrolled practice level to over 4500 enrolled.

Enrollments in the program approached pre Covid bubbles and the latter part of the quarter, which is evidence that customers continue to embrace the IDEXX preventive care approach and consider it a foundational element of their care offering as they look to uncover more with IDEXX proprietary diagnostics.

And other prioritized area of ongoing focus supporting customers with integrated solutions that support practice productivity and best Medicine.

A great example of this is our new hematology analyzer Procyte, one recently launched for presale, both our commercial teams, which were trained last month and customers are very excited by the performance usability and cost profile of the analyzer, we're making solid progress with field trials with approximately 20 unit.

At customer sites and more to fall over the next month customer use feedback in a live environment is part of our time tested approach to ensure that we only ship when the solution is ready to support patient care and the most demanding and very practice environments. We plan to begin shipping in Q1 with a gradual build in place.

<unk> over the balance of the year.

Expanding our premium installed base is a longterm objective for IDEXX with approximately 200000 opportunities for placements globally, including almost 100000, hematology placements encompassing competitive greenfield and upgrades for current customers with legacy analyzers Procyte one enables us to.

Access a much broader part of the marketplace as it's packed with the latest technology and simplicity facilitating efficiency at the practice and trusted reference lab quality results. It also has affordable economics, including pay per run billing and an inventory replenishment.

From a clinical perspective chemistry in hematology complement each other to provide a four clitic political patient profile, coupled with our catalysts, one chemistry platform with a growing menu of a new test eight years Procyte. One is yet another proof point of our commitment to bring comprehensive reference slap.

<unk> blood analysis to the point of care the solutions that are both suited to small and large practices globally.

And with our comprehensive program IDEXX 360, we make access to advanced diagnostics easy and hassle free for customers with no upfront equipment costs, we have over the last year expanded it'd X rays 60 to offer programs with flexible early year commitment for new practice formations. This.

Has been extremely well received by these practices and enables us to grow with them from their earliest days.

We also continue to see positive customer experience and adoption of our innovations and product initiatives introduced it via Max in January the Great case in point is our digital cytology service offering our first customer satisfaction survey scores were best in class customers are delighted with the under two hours 24 by seven <unk>.

<unk> promised we consistently deliver on.

Are over we make reference lab services ordering and results viewing easy and convenient for our customers with our pet connect plus diagnostic results port and more recently with IDEXX reference lab data and Ivy LLS Ivy.

<unk> was formerly used by customers suggest with our point of care in clinic Sweet, but now approximately 2700 customers are already taking advantage of this new ibms functionality for reference lab results too.

As noted on our last earnings call or sending you advanced bacteria detection get started to ship in April and over half our north American customers have used the advanced bacteria kit to date detecting bacteria in urine is a key driver of clinical value and we are confident that this enhanced capability will drive even greater I appreciate.

<unk> of our state of your platform.

Our IDEXX urinalysis anywhere strategy further differentiates us by offering customer solutions that are unique providing customer flexibility to test at the practice or our lab with seamless order integration and unified pricing.

Our customers value or holistic customer centric approach like urinalysis anywhere and we see that appreciation reflected in very high customer retention rates.

Moving onto our veterinary software services and diagnostic imaging businesses.

We saw strong new software system placements in Q3 supported by the hard work of our commercial organization and the healthy pipeline. They built earlier in the year with 35% growth year over year, and new pens placements globally, including on premise and cloud systems, although diagnostic imaging new system placements decrease.

Year over year as access to veterinary practices was pressured by COVID-19, our customers are excited about the image view D. R 30, our new digital imaging system, we announced in August the D. R 30, along with our other imaging products offers the most advanced digital imaging technology in the market.

Software capabilities that provides streamline workflow inefficiency at the practice.

The continued growth of our software and digital imaging systems installed base and subscription customers for cloud solutions are driving strong double digit growth in a recurring service revenues.

As we advance our commercial capabilities. We're also advancing our commitment to the positive impact we make into communities we serve.

Today I'm excited to share that we have established in IDEXX Foundation, a donor advised charitable fund with a contribution of $10 million to support activities aligned with our purpose to enhance the health and wellbeing of pets people and livestock as part of <unk> overall corporate responsibility efforts IDEXX has invested for.

Decades in organizations and initiatives aligned with our purpose guiding principles the.

The <unk> Foundation will complement our ongoing local partnerships, while also broadening our geographic reach and social impact the IDEXX foundations priorities will be on long term outcomes focused investments in areas such as supporting education in the veterinary and stem fields.

Including diversity equity and inclusion an animal health care. We're excited about this important step in support of our purpose and mission.

The health and safety of our workforce in their families and our communities also continues to be a top priority for us. The majority of Eyetech's employees continue to work remotely and as travel remains limited employees leveraged virtual technology to stay connected and engaged from their home offices are.

Our on site teams continue to execute it very high levels to support exceptional market demand, while maintaining important health and safety procedures.

Overall, we're excited about the strong continued market performance and resilience and animal health and more specifically in our category. We're positioning ourselves to support continued strong growth are lined with our long term potential and financial goals. This means continued investment in innovative solutions that solve the most challenging problems faced.

By veterinarians and.

In the expanded commercial capability to bring these innovations to new and existing customers and markets.

While the resilience of our industry and <unk>. His business in particular is extraordinary the situation remains dynamic we will continue to monitor closely the pandemics impact on consumers and pet owners and react appropriately lastly, I would like to take the opportunity to thank both our employees and customers for their resilience and perseverance.

During economic uncertainties, and new challenging workplace and employee safety requirements I.

I am extremely proud of what we've accomplished together in the last two quarters and look forward to the journey still before us and that concludes my opening remarks, we now have time for some questions.

Thank you well now begin to question and answer session. If you have a question press star than one on your Touchtone phone, if you wish to be removed from the queue.

The pound sign or the hashi, refusing a speaker phone you may need to pick up the handset first before pressing the numbers.

Once again, if you have a question a star them one on your Touchtone phone.

And our first question is from Ryan Daniels from William Blair.

Yeah, guys. Thanks for taking the questions and thanks for all the detailed information I'm curious if you can speak a little bit to the international growth outlook and your investments there. It's a somewhat interesting dichotomy because you are seeing a lot of strength.

In the industry in O U S and it sounds like you're making a significant expansion, but there's also an.

An ongoing uptick in Covid cases, and more locked on some curious how your.

Balancing the growth in your field Salesforce in particular.

Trusting that against what could be potential more marketing subsequent forward. Thanks.

Yeah. Thanks, Thanks, right and I'll I'll take that and Brian may add some additional power.

We see the international opportunity as a very significant about two thirds of the potential addressable market and.

We know our international customers pet owners love their love their pets as much as we do so it's it's really a question of helping to develop the marketplace. We see a lot of parallels to what we've done in the U S.

S market creation overseas. So that speaks the the investments we've made in terms of feel a footprint, which brings diagnostic subject matter experts are referenced slab, which belts out the.

The the lab network and provide the type of service levels are European customers in this case it.

Expect.

A number a number of investments in information management solutions as well as products like catalyst, one and and now procyte, one that fit those markets really well from a footprint and and price standpoint. So we saw very nice growth in.

International 29% recurring revenue on an organic basis.

We have seen some renewal second wave third wave of of cases in parts of the U S. But also part the parts of Europe, We think you know our.

Customers will work through that will work through that with him that can provide potentially some short term headwinds, but overall. These investments are really pointed towards the long term potential growth of the marketplace. Brian did you want her added I think that I think are the key point is we're we're really encouraged by.

The resilience of the markets globally, I think it reinforces there's.

Sustaining long term growth potential and you know underlying health in the business that we do anticipate there could be some some bumps in front of US just in terms of the the the the management of the pandemic, but we're very focused on ensuring we continued to invest towards longterm market development and that includes adding a.

Shall resources that can support that so.

We're trying to be balanced on that front I think demonstrating that we can deliver.

Good financial performance, as we invest and where where are intending to lean into the positive growth trends that we've been seeing spur.

Specifically since the second quarter.

Great. That's helpful. And then one more follow up I guess you mentioned this I think J. During your comments, we have seen some flow of <unk>.

Product sales in pharmaceuticals to online and curbside pickup and that could be a behavior change that sustains for a long period and drain some form of revenue from your client base I'm curious if you view that as a big tailwind for diagnostics given that's something that is high profit that really can't leave the clinic are you hearing from your sales teams or from that's that.

They are viewing this more as a sustainable longterm revenue stream, if they're going to focus on more going forward given potential structural changes. Thanks.

Keep it by that that's a trend that's been going on for for awhile that the pivot online sales both pharmaceutical probably more so under specialty diet front.

If anything Covid may have accelerated that and we have seen veterinarians, even pre covid talk about the fact that they they are pivoting to focus more on delivering veterinary services and.

To treat you obviously have to diagnose so we do think it's a it's an area of the practice that that's not tradeable, it's not going to migrate outside the practice just by it's it's very nature. So we do see that as a as a positive trend that it had already exist at the end it makes.

May accelerate overtime, but not necessarily unique.

To the Covid environment.

Our next question is from Aaron right from Credit Suisse.

Hi, Thank a kind of a fall.

Follow up to that.

How do you plan to tell him that opinion virtual care, but also on the preventative care can you get like an update on the taxi nurse and how you can do about that into a telemedicine and original carolines keeping how you can really play into that trained can you kind of counterintuitive, how that how that impacts.

Sharp in terms of that telemedicine as as part of revised workflows.

That practice has adopted early on so this is this goes back into sort of the April may timeframe with patient curbside drop off and pick up and and restricted access a lot of practices look look to telemedicine solutions, it's primarily more a software solution then.

Something you'd see on the human side with with Teladoc and our solutions.

Integrate with the telemedicine offerings on the marketplace and you know we have seen a lot of interest in it whether or not that sustains.

Post Covid remains to be seen we think we think ultimately it's a positive for our business and.

Especially if it brings like more cats into the practice and initial diagnosis of cats and may require a physical visit to the practice in terms of preventive care as I mentioned in my remarks, we we salt towards the tail end of the quarter more or less.

Covid levels.

Of enrolment. So we had we were 230 or so for the quarter, which slightly less that pre covid, but again, there was a movement towards the end of the quarter to more normal levels and that's to be expected. These type of programs require a fair amount of ink clinic access from Bolton Onboarding and repeated training standpoint.

Across the entire staff up at this tremendous interest in the programs.

That piggyback on the tremendous interest in wellness in general I think tying together your your question and Ryan question. It really does speak to this service orientation that we see Ah.

Amongst veterinarians, and obviously wellness and preventive care that big piece of that.

Okay, Great and then on the capital equipment Sadly that come back and how much are you needed can be lavolta you willing to spend on Capitol appointment in this environment product ankle bye Knickknacks and have you seen any aggression promotional activity alright changes in the competitive environment.

Yeah, I'll make a couple.

Provide a couple of comments on that and Brian me add some additional flavor.

We did see it.

Fairly dramatic recovery from Q2 levels that capital equipment placements as both a function of clinic access and that that has remained somewhat restricted we're at 50% in the U S. 60% overall in person visit internationally, but it's also a function as Brian indicated in his remarks.

Just the practices are busy and you know what do you think about.

Placing any clinic sweet they requires training into workflow modifications integration into their local network. So that that they have to hit the pause button for some period of time in which to be able to do that.

And when they're working pretty much full.

For the full days without without a lot of gaps in their schedules that could be challenging in itself, but we do expect continued recovery.

Throughout the year, it's really just a function of COVID-19, and in the environment and its impact on practice access yeah, I think the what we've learned.

To date through the pandemic Erin is we don't see.

Caution per capital outweighs as being something as advocated by the sales force as being a challenge or changing competitive dynamics anything like that.

In fact, our retention levels of or record high levels. They actually improved and we are where we feel very positive about the dialogues, we're having I think to the Jays point, it's more about access and just how busy the vets are we would highlight that as you look at the case increases the area that I think.

We anticipate relatively more impact is in things like instrument placements because that that can you know there can be a prioritization of of what we're goats are spending their time. The good news is the underlying demand in the market has consistently been so strong in this recovery that that puts us the industry <unk>.

Where they can grow at a healthy rate, but we could see ongoing deferrals on this front. If we're working through again kind of lockdown or enhanced social distancing procedures that that add to the to some of the restrictions we've seen but but good improvement is J noted from Q2 to Q3 encouraging.

Okay, Great. That's helpful. Thank you.

Our next question is from Michael Reiss can from Bank of America.

Hey, Thanks, guys J.

J quick one to start just follow up on some that came up earlier I was going to be clear have you seen it any moderation whatsoever in some of the European markets like severe like France, Germany, U K and what we've seen a little bit more of an uptick I'm just trying to do any you know any trend you could be seeing an visits.

The impact from you know on the one hand, and increasing Covid cases been on the other hand and increase in government locked out I think what we've seen previously some of that first leaving and <unk> was it really was the lockdowns that drove it and if you look at the you asked out of it by region. It doesn't really seem like business that so far but I just wanna be clear.

If you've noticed anything and some of the parts of the world where the.

Secondly, there's a little more advanced.

Oh go ahead, Yeah, My Guy, maybe just as contracts I I know you've seen the of just this country's a U S date as we do report on that and that the visits were sustained kind of solidly into Q4 in the non wellness of sustaining well so even with some of the moderation would expect in the pet up walls demand that's how.

Well, you know Jason charges, but.

I would say in in international markets. You don't have the same level of kind of wellness benefit. If you will you know in terms of just how they provide care and what we saw in markets and European in Asia was very strong recovery kind of.

Some benefits from some pent up demand and kind of gravitation more towards pre covid type volume growth rates late late in Q3, and so I think it's it's early to look at how new Lockdowns might impact the business that you know clearly that had benefactor back in in March and <unk>.

<unk> I think the markets have learned to adapt to your to continue to provide services as I mentioned earlier than we would anticipate this could cause some constraints on areas like instrument placements and there's always a chance selectively this this could impact.

Some underlying demand or prioritization of the services, but I think it's early for us to to make any projections on there from yeah. Let me just build on a couple of those points.

The or the international markets are more biased towards in clinic testing as well as not wellness or sick patient testing, which which is less less impacted by covid related social distancing policies to.

Brian point, we believe we seen a return to more or less pre cover levels internationally, but the mix and flavors a little bit different than what we've seen in the U S and with ink with non wellness testing the percentage.

Of diagnostics usage is also higher it's close to 80% or self from a.

Split standpoint between nine wellness and wellness. So hopefully that gives you some flavor.

Potential impacts.

Yeah that is really helpful. Thanks, and your right now looking at a snapshot you guys posted on a website some parts into it as much as you can and does seem up the west region in the Midwest is held I'm really wall and that's where the second ways in the U S had been so that doesn't inhibitor put a little more stable a quick follow up for me Brian for you on the on some of the.

<unk>, the and spending and investment has gone forward you touched on this earlier, obviously very strong free cash flow year to date, you talked about starting to wrap things up again could you go into a little bit more detailed go forward you know beyond me ashlin investments in the R&D talked about and <unk> with a pro site. What else are you targeting you'll how sustained and it's going to be in school.

To be.

Some some catch up spend maybe you pulled back early in the year or is this going to be a new higher level Uhm. That's more sustained go forward and then also on the capital deployment phone if there's any changes there beyond your comments on the share buybacks.

Yeah.

At a high level, we're transitioning from a period early on where we tried to be really cautious on on investments with a lot of unknowns in front of us with business go growth and.

Many companies froze hiring and and pull back on compensation and tried to ensure word good place and we are now going through a period, where we have a higher level of confidence under the underlying market growth. We are we are I'm getting ready for 2021 and thinking about how we're gonna manager.

Business going forward and we're starting to.

Advanced new hiring in positions that we had frozen and things that we wanted to to move forward with we're adding staffing in our labs to try to keep up with 20 per cent plus volume growth and.

I think this is more indicative of us having a higher level of confidence in kind of the underlying market demand and how covid may impact our business and ensuring that we're prepared for that going forward. We are doing some catch up on areas I can tell you an.

And central compensation accruals and things like that that we were we were quite conservative early in the year and we are in a better place to support that now and we reinstated salary reductions in reinstated 401k reductions and things like that so there there's some of that going on but I think the bigger picture here is we're looking at a more.

Market in our business, that's growing it very healthy rates and we want to ensure that we're investing.

Investing towards that and supporting that and have confidence that we can do that well while delivering.

Financial performance, that's the one with our long term goals.

Great. Thank you so much.

Our next question is from John Block from Stifel.

Thanks for the time guys good morning.

Maybe first question I will just start with Procyte one in in in a year wall and are essentially in 2021 contribution I don't expect details, but if you can help us think it through her conceptualize what that contribution might be an authoring two things at J I think set of you.

Which over 2000 units ish in the first 12 bonds and if I look at your snapshot Youre hematology bases over 30000, and so if you were to turn 10% of that base. It's 3000 units is that a good ballpark to think about the dishes somewhat replicate a set of you type lawn should it be greater because set of you.

Arguably pioneering urine sentiment in clinic J, maybe if you can just talk to that and the dynamics that'd be very helpful.

Sure.

Think about Procyte want more from the standpoint just.

As a benchmark analogue more from the standpoint of catalyst one is that as a reasonable benchmark for for pace of the placement belt keep in mind.

Catalyst wanted to have a longer presale period that then procyte. One so you Gotta you gotta take that.

Consideration to your point. It is hematology is a more established marketplace. There certainly I think a a lot of interest for it but the the way we're rolling it out his first in North America, and then followed quickly thereafter internationally, where there's a really nice I think 230.

Plus of the opportunity is there. So you would have to take that into consideration. The other thing is procyte.

One will have we believe that'll have a very high attach right with chemistry. So our focus is really on being able to place suites of chemistry hematology at potentially urinalysis versus just taking procyte, one and and let's say upgrading of laser sight account or just.

Single competitive hematology account, Brian did you want to add anything to it I think that's you know all the right kind of background I think we as J noted, we'll we'll be rolling this out gradually through the your your so some of this will depend on how the the exact timing of how that phases in and.

Thank the catalyst one launches as a reasonable benchmark, but we'll we'll provide more insight on that as we we get closer to the year on a your uncle, we'll get we'll get some more indications and how we're feeling about that outlook.

Okay got it variable thanks, guys and the second one will pivot bright of long overdue for a margin questions. So I'll throw in your way, but I know you're not guiding but if we can just talk about margin expansion next year, just puts in tanks and where I'm going with this as your 50 to 100 <unk> goal I don't think you ever backed off that goal even in years when you.

<unk> outperformed and I just wanted to check in on how we should be thinking about this next year in other words in 2020, clearly margins are benefiting from some of the temporary solid reductions that you had in place, they're benefiting notably from a mix ship perspective right as the equipment has been down in the recurring is just ripped and.

So do you sort of stick to that 50 to 100 <unk> thought next year or as we get into 2021 do we have to sort of normalize for some of the variables that I'd just throughout a Jew when we think about the rate of expansion into next year. Thanks.

We're shooting for the same long term goals John So it's you know that 50 to 100 is is you know that that's we think are very reasonable estimate we think we can deliver that in this kind of a business clearly you adjust for certain things like the litigation are cool things that are one time in nature that we try to highlight right but.

But.

We're not providing specific guidance, but we have the same long term goals and as you know when we're X.

Executing well in our growth and we have a high keg diagnostic recurring growth that puts us in a really good position and deliver against their goals and support investment of the business. So.

More to fall on that the same same goals for the business.

Fair enough thanks, guys.

Our next question is from Nathan enrich for Goldman Sachs.

Good morning, Thanks for the questions J, maybe to start you.

You highlighted a number of favorable trend kind of you know impacting the.

The growth and the cat diagnostic business, because we think about a little bit longer term about how that could kind of translated into what you guys. The end of 2021 and beyond looking at the growth you saw this corner I think they're worth you know factors like pent up demand and grew.

From new patients that you guys quantify that you know maybe some side longer term, but it seems like the the keg diagnostics grows even excluding you know 3% to 4% from you know those maybe shorter term dynamic would still have been in the mid to high teens. So I guess, what I'm asking is do.

Do you feel like based on the positive trying to you're seeing in the business that type of of keg diagnostic return growth would be sustainable longer term.

Yes, I'll give you just maybe some additional flavor on that so just setting aside the pent up demand peace cause I pick from US wellness standpoint, you know I think a lot of that work through an 82 three so the two or three maybe rather longer term trends were tracking from a sustainability sample.

Is the new clinical patient visits and we think that that is something that.

Obviously, if there's a lot of new puppies and kittens to the marketplace that they're gonna need care and that that as they age. So that's certainly a positive and we want we want a more data and see how that developed over time and then I spoke to use in intensity of diagnostics. So that's tied up into her.

I'll pivot to service.

In terms of more visits include diagnostics and intensity when they used diagnostics, it's at a higher average.

<unk> volume.

Some of that.

Is in our control in terms of our commercial approach and innovations and being able to provide to veterinarians the tools that allow them to cover more so that's certainly something that we've.

No. We've we've invested in even pre Covid and I think we're seeing the fruits of it and it may be on top of.

And accelerated pivot to services that we see on a part of a veterinarian. So certainly those are those are positive for the business that I think we just need more time to see how they play out and at what level.

Okay, Great and then if I can follow up on zones questions on on margin, maybe looking at the keg segment, specifically gross margin.

Stronger than music expected I think the driver that you called out with Robin blood productivity, obviously favorable MC then then the the price gains do you feel like that sustainable you know over the next several quarters and on rough implant specifically you kind of mentioned, adding staffing does that create any sort of maybe draw.

<unk> relative to what we've seen over the past one or two quarters for the keg segment.

Big driver in Q3 was lab productivity. When we had 2020 plus percent you know kind of growth and controls on costs and we're not projecting sustained 24% kind of grow through levels and and web business, where we're courage by the trends so.

That is we think that will we will continue to be able to get lab productivity and and we do need to add staffing, but when that's that's more of a moderator than it is something that's a headwind. If you will so I think we're we we do think we're in a good position to continue good or positive.

Margin gains when you have high keg recurring growth and we're just highlighting that we're adding some investments back in the business and and trying to position ourselves going forward. So it's it's more of a you know something that will moderate the gains in and just to reinforce our goals are annually 50 to 100 bps and of improvement and we want to.

Deliver good performance, but also ensure that we continued when it goes towards longterm market Goldman. So that's what we're working working on as we're heading into next year.

Thanks for the questions.

Oh, you have a question from David Westenburg from Guggenheim Securities.

Hi, Thanks for taking my question and congrats on a great quarter. So when we're looking at the macro data I I think we're seeing a gap over the last two quarters between practice revenue and practise volumes I tend to think about eight Oh, maybe diagnostics is is being a benefit of of Ah Ah volumes and maybe.

The reason for the the the increase in revenue on it per visit basis are are year over year basis. So am I thinking about that the right way that you actually would be on on volume and then you're actually just the cause of the practice increasing in revenue and the reason why I kind of ask us if we look at to next year.

And and we think about you know how to model the company and how to how to our expectation should we be thinking about you know a factor about like this major factor above volume or should we do you think about this is this lower factor above a revenue in the practice gross.

Well, yeah. So let me let me try to address that a couple of different levels. The practice revenue growth has been obvious a very strong.

Over the over the year, we saw we saw tenant have 11%.

Most most rates. So that's obviously our diagnostics growth has been you know faster.

Faster.

And that and that and we've all.

Always believe the diagnostics enables and drives our services within the within the practice and your question to ask.

Longer term sustainability feeds into the discussion that we had previously around the pivot to services.

Veterinarians interested and obviously.

Meeting demand for clinical.

Political patient visits as well as being able to focus on what they do best which is carrying carrying for for patients up but I think the part that positive bass backdrop for all the reasons cited and we'll see how that plays out David Let me. Let me give you some metrics maybe you can help with this a little bit which is.

Over the last five years. So if you break down there the revenue per practice diagnostics revenue growth for practice growth that J referred in the call. It was about a 7.5% increase on average over the last five years.

Roughly 3% of that was from visit growth point.

0.5% contribution came from frequency. So that's the percentage of visits that include diagnostics and about 4% of that which we mentioned was growth and diagnostics revenue per visit.

Two year to date, what we're seeing is 1% from clinic clinical visit growth a 3.5% contribution from frequency increases and a 6% increase from revenue increases and so we're learning about this but.

Answer your question. It is both volume, which would be the frequency dynamic and the revenue peace and.

That is the central question, you know kind of like what what's going on here is the sustainable do we see this expanding overtime. So clearly the clinical visit dynamics were were coming to understand you know in terms of its.

It's healthy overall and perhaps there's some benefit from new patients that can sustain but I think this underlying trend of dogs.

Diagnostic frequency and utilization, which has been a long term trend for us expanding it. The question is where are some of the things going on through the pandemic. Some of the learning is the changing and how services being delivered cause that set the stage for some accelerated growth so early to predict it or encouraged by it and.

Consistent with what we've been trying to do in the market. So it something that we looked at bold one.

Appreciate that will help with the model. Thank you.

I think we're out of time. Unfortunately, so we're gonna yeah. So I want to thank everybody for for calling in I know we have some employees were also on the call and I just wanted to express my gratitude for their extraordinary performance. During these obviously challenging times, we run the company in a way that takes a long term view of the opportunities that.

Head of us, while while still delivering the day.

I couldn't be more appreciative of the IDEXX team and the purpose, which animates our work and so with that will conclude the call. Thank you.

Thank you ladies and gentlemen that concludes today's call. Thank you for participating you may now disconnect.

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