愛德士 (IDXX) 2012 Q1 法說會逐字稿

Welcome to the IDEXX Laboratories first-quarter 2012 earnings conference call. As a reminder, today's conference is being recorded. Participating in the call this morning are Jon Ayers, Chief Executive Officer; Merilee Raines, Chief Financial Officer; and Pete Levine, Director, Investor Relations.

IDEXX would like to preface the discussion today with a caution regarding forward-looking statements. Listeners are reminded that statements that members of IDEXX management may make on this call regarding management's future expectations and plans and IDEXX's future prospects constitute forward-looking statements for purposes of the Private Securities Litigation Reform Act of 1995. Forward-looking statements can be identified by the use of words such as expects, may, anticipates, intends, would, will, plans, believes, estimates, should, and similar words and expressions.

Such statements include, but are not limited to, statements regarding management's expectations for financial results for future periods. Listeners are reminded that actual results could differ materially from management's expectations. Factors that could cause or contribute to such differences are described in IDEXX's annual report on Form 10-K for the year ended December 31, 2011, in the section captioned Risk Factors, which are on file with the SEC and also available on IDEXX's website, IDEXX.com.

In addition, any forward-looking statements represent IDEXX's estimates only as of today and should not be relied upon as representing the Company's estimates as of any subsequent date. The Company disclaims any obligation to update or revise any forward-looking statements in the future, even if its estimates or expectations change.

Also, during this call we will be discussing certain financial measures not prepared in accordance with generally accepted accounting principles, or GAAP. A definition of these non-GAAP financial measures is provided in our earnings release, which can be found on our website, IDEXX.com.

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

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

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

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

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

While some of this increase may be due to the mild weather experienced over a good portion of the country, we are encouraged that the improving trend we saw over the back half of 2011 continues into 2012, even if the growth rates do not sustain at the levels experienced in the first quarter.

In contrast to the improving US environment, in Europe we saw the organic growth rate for our Companion Animal businesses decreased to 5% as compared to 8% growth experienced in the fourth quarter last year. Performance varies widely in the region, with countries such as Germany and France showing strong performance, and performance in countries such as Italy and Spain reflecting the impact of their challenging fiscal situations. On balance, we continue to believe that our businesses will benefit modestly from an improvement in the macro environment over the course of 2012, with 1% to 2% volume growth attributable to a more robust economy.

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

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

We also saw strong performance in our hematology placements, with a combined placement growth of 25%. ProCyte remains an attractive choice for our larger customers, and sales of new and recertified LaserCytes are continuing to do well in accounts with lower volumes. Our Asia-Pacific region had over a 30% growth in total instruments placements across the VetLab suite in the first quarter, and we believe the region presents an opportunity for both Catalyst and ProCyte. In Japan we placed our first ProCyte units in Q1, a quarter ahead of our expected launch schedule.

Consumable revenues of $69.8 million grew organically 10%, or 9% when further normalized for changes in distributor inventory levels. This is in line with our 2011 normalized growth and our projection for full-year 2012 normalized organic growth.

Consumable growth is driven by volume growth from our increasing installed base of instruments, increased testing as current IDEXX customers upgrades their in-clinic lab with Catalyst and ProCyte, and increased same-store testing as a result of improving patient visit volume.

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

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

Other key contributors to our first-quarter growth included volume growth in our canine Vector-borne disease tests, as well as a successful ramp of our SNAP feline pancreatitis test, which was launched in the second quarter of 2011. Our expectation for 2012 is to see normalized organic growth rates in the range of 4% to 6% for the rapid assay business, which represents some upside potential from the 4% we were expecting at the start of the year. This improved outlook is reflective of somewhat stronger growth in canine volume in the first quarter.

We expect that growth rates will be higher in the first half and then moderate as we anniversary price increases in 2011 product launches. Our Reference Laboratory and Consulting Services business, with revenues of $101.9 million, achieved reported growth of just over 14% in the first quarter, which translated to 11% organic growth.

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

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

Acquisitions contributed just under 4% to our 14% reported labs and Consulting Services growth in the quarter. We were pleased with the performance of the RADIL and ALX acquisitions that were completed late in the fourth quarter. Integration of these businesses has gone very well.

In addition to these acquired labs, we opened a new day lab in St. Louis, Missouri, during the quarter. This brings our total global network to 57 labs.

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

Our Livestock and Poultry Diagnostic revenues declined 6% organically to $22.2 million in the first quarter. This decrease was driven in part by the anticipated events we have mentioned previously, including a decline in BSE revenues due to the change in the EU testing regulation, and the stepdown in testing from an eradication program in Germany.

We have also seen somewhat lower than anticipated ramp of new product revenues, including our first SNAP test for use by the vet at the farm and our bovine pregnancy test. Both of these tests involve changes to current testing protocols, and so the adoption curve can be a bit difficult to predict. We now project that organic growth for this business in 2012 will be flat to low single digit, down from our projection in January of mid to low single-digit growth.

Our water business grew 4% organically to $19.6 million. This growth was in line with our thinking and is consistent with our expectations for full-year organic growth. Turning to the rest of the P&L, gross margin at 54% and operating expenses at 35% were roughly in line with our thinking in January. Our effective tax rate of 31.7% and our share count were also in line with our expectations.

As for the balance sheet and cash flow, we ended the quarter with $185 million of cash and $257 million of debt, for a net debt position of $72 million. Our inventory balance of $141 million was approximately $8 million higher than the level at the end of the fourth quarter, due primarily to timing of inventories associated with certain of our instrument platforms. We expect these levels to come down over the next couple of quarters.

DSO, at 43 days, remains in good shape. Our free cash flow was $17 million or 41% of net income. As noted in the past, free cash flow tends to be lower in the first quarter, due to regularly occurring events such as annual performance-based compensation payments and increases in receivables related to the ramp of some of our more seasonal product lines.

Looking forward, we project full-year revenues of $1.31 billion to $1.32 billion, an increase of about $12 million to the low and high ends of our range relative to the guidance provided at the time of our January earnings call, which is the result of the favorable impact of currency. Our revenue guidance implies both reported and organic growth of 8% to 9%, as a 1% favorable impact due to acquisitions offsets a 1% negative impact of currency.

Organic growth is unchanged relative to our outlook in January. While our current assumption of a 1% to 2% increase in volume growth due to a more robust economy is slightly improved from our expectation at the time of our January earnings call, we now expect a somewhat lower contribution to growth from price realization.

We continue to project full-year gross margin to be approximately 54% for the year, about 100 basis points above the full-year 2011 rate, and we expect gross margin in the second quarter to be approximately 100 basis points higher than our full-year average, due to the seasonality of our Vector-borne disease testing business.

We continue to project operating expenses to be between 34% and 35% of revenue for the full year, all leading to an operating margin between 19% and 20% for the year. This would represent a roughly 50 basis point improvement from last year, when 2011 is adjusted for the favorable impact of the Pharma payments that we received that totaled about $4 million.

We expect the tax rate to be between 31.5% to 32% for the full year, which is unchanged from our previous guidance. As a reminder our projected tax rate is approximately 50 to 100 basis points higher than 2011, primarily due to the fact that we have not incorporated the benefit of the Federal R&D tax credit into our 2012 rate.

All of this leads us to 2012 earnings per share guidance of $3.07 to $3.12. The increase of $0.02 to the high end of our range reflects the favorable impact of currency relative to the rates of assumed at the time of our January earnings call. We are increasing the lower end of our guidance by $0.03, which reflects their currency impact that I just mentioned, as well as an additional $0.01 from business performance. We continue to project free cash flow to be approximately 110% of net income.

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

Okay, thank you, Merilee. I will provide a couple of updates on the business and the progress of some of our innovations; then I wanted to turn to an important update on our US distribution strategy and the FTC investigation. At that time, we will open the call to Q&A.

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

In the area of new products, we were pleased to receive USDA approval and to announce the launch earlier this week of our newest SNAP kit for canine Vector-borne disease, SNAP 4Dx Plus. SNAP 4Dx Plus is able to detect a 5th and 6th tickborne disease, adding to the 4 Vector-borne diseases, including heartworm, that we already cover with SNAP 4Dx. We will be offering SNAP 4Dx Plus in the place of its predecessor, 4Dx, and will not be charging any more for the upgrade and capability from 4 to 6 Vector-borne disease tests in one kit. This will be true for both the in-house version, the SNAP kit, and our lab offering of the same test.

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

We have talked in the recent past about our strategy to support the veterinarian in communicating the value of the pet healthcare and regular visits with their clients, the pet owner. In that vein, we have launched in the past 6 months the Pet Health Network and our iPad app that allows practices to show digital radiograph to clients in an easy and real-time way during patient visits. These offerings have been extremely well received by our customers.

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

Second, we will be introducing a very significant advancement in the way our customers can access the results of our diagnostic offerings, both from the reference lab and the in-house lab, and can share those results in an intuitive way with pet owners. We call this advancement VetConnect PLUS, leveraging the over 10,000 customers who regularly log on to our VetConnect website today for our reference lab results. We have developed VetConnect PLUS using Cloud technology to present the results of bloodwork, run either at our reference lab or our in-house equipment side by side and over time, to facilitate data comparisons and the visibility of trends. These results can be viewed either on a Web browser or on an iPad or a tablet and are available real-time as soon as the new results on a patient are available.

The benefits are multi-fold. First, the ability to see the current blood work parameters in the context of all historical runs, thus adding the medical insight that comes from trending, say, in the same way that a P&L is far more interesting when compared to prior P&L's. VetConnect PLUS will be able to easily and intuitively grab any particular parameter over time to aid in this insight.

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

Fourth, the iPad or tablet modality is highly useful for sharing the results with pet owners, and of course, real-time if run on our in-house equipment, and e-mailing these results to the pet family directly from the iPad. Finally, the same analytic capability on all bloodwork results will be integrated into Cornerstone's electronic medical records system.

We think that VetConnect PLUS will be a pretty big differentiator for both our in-house and reference lab offering, and we are offering the core Cloud capability free to all of our customers of our diagnostic offerings. Of course, they have got to buy their own iPads. VetConnect PLUS will become available to our customers in the US at the end of the quarter, although we already have several dozen customers using it and raving about it in beta form.

Finally, I wanted to give an update on our US distributor strategy and the FTC investigation. Through a series of discussions with the FTC, we have gained an appreciation of the nature of the FTC's concerns, which relate to our agreements with our three largest US distributors.

We have also taken the opportunity to conduct a close review of the effectiveness of our US Companion Animal distribution strategy for instrument consumables and rapid assay kits. We have been thinking about steps we could take that would allow us to avoid potential litigation and that would make sense for our business.

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

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

Finally, the generalist distributor will have amended terms with IDEXX that will reflect its status having been changed from value added, and we would expect this would, of course, result in a lower distributor margin. The funding that accrues to IDEXX as a result of this change will be redeployed to incremental sales and marketing investments, consistent with our long-standing strategy of using a combination of both IDEXX sales and distribution resources to serve our customers.

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

We anticipate that these new arrangements would be negotiated over the next several months and would take effect no later than the new contract year, which begins January 1, 2013, and even earlier should one of the distributors wish to change to generalist before the expiration of their annual contract with IDEXX. We do not know at this time which distributor would change from value added to generalist, as this will involve discussions with each of our distributors, and of course, their analysis of operating as either IDEXX value added or generalist also carrying competitive product.

We also do not know how long it will take to finalize the new arrangements. In the meantime, we will operate the business as usual, honoring the current distributor contracts.

We do not believe these changes have any material impact on our strategic plan over the next 5 years. In terms of how much IDEXX revenue would come under the generalist arrangement when we make this refinement to our distribution strategy, sales to the US distributors account for about 20% of total IDEXX revenue.

Depending on a number of factors, we think somewhere between 25% and 40%, or 5% to 8% of our total IDEXX revenues, could come under the generalist arrangement. Importantly, we believe this revised distribution arrangement satisfies the FTC concerns as we understand them, with at least one national distributor as a generalist also carrying competitive products.

Our understanding is that the FTC has put their processes on hold as we carry out this plan to its conclusion in the new arrangement. Following the execution of a modified agreement that addresses the FTC's concerns as we understand them, we anticipate the FTC would seek to formalize the modified arrangement in the form of a consent order.

Of course, we don't speak for the FTC and cannot guarantee any particular results, but we have enough confidence in our prospects for success with this approach that we are setting this process in motion. We still believe we have a very strong legal position for all the reasons that we have discussed in the past. However, we always have to weigh the prospects of lengthy and expensive litigation that would involve the whole industry against the available alternatives. In summary, we believe this plan makes a lot of sense for our business and our veterinary customers and also helps us avoid litigation with the FTC.

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

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

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

(Operator Instructions). David Clair, Piper Jaffray.

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

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

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

Yes. We are very excited about the partnership with Purina. We've actually -- it has been in the works for quite a bit of time. We work very closely with the Purina to design, if you will, template preventative care plans that include the appropriate diagnostics.

We do have some benefit when we bring a customer to the equation. But we think the larger benefit is that this is really part of a series of steps that helps customers increase preventative care with veterinarians and with pet owners. And of course, the increase of preventative care that includes the appropriate preventative diagnostics will increase our volume.

So we think this is a tool -- a value added tool that our sales force can bring to customers. It is a type of thing that is being talked about in the industry, and PurinaCare is, we think, way out ahead in having designed the plan. So we are very excited about that partnership.

But I would just say it is one of many marketing efforts that we are working on to grow the veterinary industry. Nothing happens overnight in the veterinary industry, but trends do have staying power and long-term impacts, and I would say that this would be one of them.

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

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

Do you think on the lab side that that is more -- does that reflect increased competition?

I really think it is a function of the programs that we have been executing in the marketplace over the last couple of years now, and we are seeing the cumulative impact of that, where the customers enter into these programs, and the rebates that they earn over a period of time are applied against, in many cases -- in fact, the majority of cases, against capital equipment purchases from IDEXX.

So that really is the main driver. Competition has always been very aggressive in that marketplace, and I don't think that the pricing dynamic in regard to competition is particularly different. That has always been pretty aggressive.

Okay, thanks. Congrats on the quarter.

Ryan Daniels, William Blair.

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

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

Okay, thanks for the color. And then, Jon, turning to a different topic, one of the big trends we have heard a lot about at NAVC this year was the movement towards wellness plans.

Two questions here. First, are you able to tie end-market hospital performance to these plans at all, meaning any data showing that they drive stronger growth for the vet? And second, any data that you have that shows how these plans impact diagnostic utilization?

Yes. We have -- of course, it is early returns with PurinaCare, but we very much believe this drives both of those, and because they are -- because the diagnostics are part of the wellness plans, together will drive growth in the practice and growth, of course, in diagnostics is a natural follow-on to that.

One of our very good customers has been doing a form of this for a long time, and they have been achieving the strong double-digit same-store sales growth for quite some time. So I think there is good precedent.

But it is all in the execution. These things aren't simple, and they do require a change in the practice, and that is always a problem. It is always a challenge for practices to change, and so one of the great things about the PurinaCare is it is a system that facilitates that change process, just as many of our technologies try to make it really easy for customers to change, but there is still -- that change in behavior and process has got to take place at the local practice.

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

I think we have adjusted for the day. The weather is a great question. If you recall, last year we had horrible weather in the first quarter, and this year we had great weather. So it is a very favorable weather compare, and it is tough to analyze that but I think certainly that was a significant factor.

We saw gradual improvement over the course of 2011, and probably some of this is a continuation of that gradual improvement and other of it is the favorable weather compare.

Great. Thanks for all the color today.

Miroslava Minkova, Leerink Swann.

Let me start with a question on the FTC agreement, or the one you expect to sign. First of all, what gives you the confidence that the FTC will upgrade to just one distributor, one of your three major distributors coming off the exclusive agreement? How do you think about that? Secondly, what, to the extent you can discuss, what kind of an agreement do you expect to sign with the FTC?

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

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

Okay, so that is the basic thing that you expect in the consent decree? Okay, and maybe as a follow-up to that, I am trying to square away your comments. The economy did improve in the first quarter. You are seeing volume up 4%, 5% and practice revenues up 7%. Yet at the same time -- and organic growth of 10% overall -- yet at the same time, your organic revenue growth guidance for the full year is unchanged, and in fact suggests that things should probably decelerate slightly.

Help me understand. Why so conservative on the guidance? And does it have anything to do with the fact that you are changing the distributor arrangements?

To the latter question, absolutely no impact on that. We don't expect any impact on that. This is a refinement of, really, an integrated strategy. So the answer to that last question is no.

When you say increasing 5%, these are our Cornerstone customers; this is not the market as a whole. Our Cornerstone customers in general have done better than the market as a whole, as we understand it. And so, the second is part of that was -- I think you saw it in the retail sales. It is a -- there is a favorable element that is probably transitory.

Third, of course, that is only US data, and over 40% of our revenues at IDEXX as a whole comes from outside the US. And of course, Europe, while it grew 5% in the first quarter for us in the Companion Animal business, that decelerated from 8% in the fourth quarter, and I think it's going to be a little bit more challenging situation.

So there are a lot of puts and takes. We have not changed our organic growth guidance. It remains the same as it was in the last quarter.

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

Ross Taylor, CL King.

My question relates to the potential changes in your distribution arrangement. When you do eliminate one of your value-added distributors, do you expect a lot more of your business is going to shift into the remaining value-added distributors, giving them added incentive to want to remain so?

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

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

I think one of the benefits we will have is our remaining distributors will be more -- they will have one less national distributor to contend with on a value added basis, and therefore they will probably be, I would say, not that they weren't motivated before, but more motivated to continue to grow our business because of that fact.

Okay. Maybe just as a follow-up to that, would you anticipate that economic arrangements you have with your value-added distributors -- whether those will change materially next year compared to what you have this year?

I think they will be generally the same. We will be in conversations with them about what the nature of what a relationship would look like next year. But I would say, generally speaking, that they will be quite similar to where they are today.

Jonathan Block, SunTrust.

I guess the first one, Jon, is just for clarity on the market -- I think it was actually the third quarter in a row of deceleration in European CAG from 10%, to 8%, to 5%. So can you just comment on what is going on over there? Are you starting to see some stability in the mid-single-digit range, or do you see continued deceleration there? And then if you can comment if that is really what is keeping your organic growth in check, because via the Cornerstone data, it does look like we saw a nice sequential pickup in the US market.

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

We have business across Europe. I think our Northern parts of Europe are continuing to do quite well, including places like Germany, where we have significant business in the Companion Animal business, and France. The challenges are more in Southern Europe, as you would expect, Italy and Spain.

But anything -- it's hard to predict. I think we are pretty -- we have got continued growth plans. We have great European country management and very established strategies to continue to grow the business. So I would not -- it is hard to predict what is going to happen in Europe generally, but I would be surprised if we had any further deceleration of growth, especially given perhaps some of that was weather.

Okay, and then I will try to adhere to the two question rule, but I guess like others, multi-parts. So on the distribution side of things, I just want to make sure I have got this correct. It sounds like -- did the FTC sign off? Because if you unwind one of your three distributors with a consolidation in this industry, arguably 50%, up to 70% of this market could still be locked up. So can you comment -- has the FTC of essentially given you a soft sign-off on unwinding one of the distributors?

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

As we understand it, by moving to this generalist relationship with one of our three largest distributors, where they are not subject to the competitive products policy -- and we would therefore of course expect them to carry competitive products along with our products -- addresses the FTC's concern, and we are committed to moving forward with that change. I will tell you that we are very, very confident that that will be successful in that process.

Okay, and just a second part to that question. In terms of share shifts, whatever happens, happens, but turning it back to the P&L, can you talk to arguably what you would see from legal on an annual basis? I mean, when we look out to next year, what did you spend on legal from the FTC overhang in 2011, or what would you have spent in 2012?

And then I think Ross was going there and I just didn't understand it. If you are one of the two distributors that remains exclusive to IDEXX, do you sort of have to sweeten the pot, give them a higher commission, to keep the exclusivity?

I missed the last question.

In terms of what your -- the payment to the distributors, if you are staying exclusive, do you have to give a bigger spread our sweeten the pot in order to remain -- to keep the exclusivity?

No, I really don't actually -- I think the remaining distributors, IDEXX would actually become more valuable to them, because they have one less large distributor to contend with as value added. So I don't see that really at all a possibility.

I think the changes will probably be modest, if anything. They might be slightly favorable to the IDEXX, but we will continue to invest in our strategic distributors.

And of course, with regard to economics, as we have mentioned, because of the lower margin that the generalist would receive on IDEXX products because they have moved away from being value-added, that's -- we estimate to be $6 million to $12 million in resources that we can then reallocate to our sales/marketing customers' support and support of our remaining value-added distributors.

So that is going to be a nice -- and that is incremental to our existing investments in that area. So that will be helpful to us to continue to serve customers and bring our innovations to the market. I will have Merilee answer your question with regard to the legal spend.

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

Erin Wilson, Bank of America/Merrill Lynch.

On the distribution update, do you know what sort of timeframe you will be formalizing the decision with the FTC and how that will be disclosed?

Yes, well, our contracts without distributors today are annual contracts, and they expire at the end of the year. We cannot unilaterally change one of these distributor contracts. So we would anticipate that this change would be put in place no later than when the contract -- these three contracts expire, and we have moved one of our distributors to this generalist approach.

Should one of the distributors want to move more quickly to the generalist approach, we will do that. So that is why the timing is a little bit difficult to predict. Once we have entered into that new relationship with that distributor in a way that we believe is responsive to the FTC's concerns, then we would anticipate that we would -- that the FTC would seek to have this modified agreement formalized in the form of a consent order.

Okay, so we should probably hear that about sort of distribution agreement before we hear any sort of FTC order simultaneously?

I would say we would probably hear about the change in the distribution agreement before we would hear about the FTC. But what we believe is, by having moved to this modified agreement with one of our three distributors, this does address the FTC's concerns.

Okay.

So I think then we would have the FTC seek to formalize the modified agreement.

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

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

Okay, and what portion of the overall lab growth was attributable to Consulting Services?

We have to get that information for you, Erin.

Okay, no, that is fine. Thank you.

It was about $2.5 million.

Is it the revenue or the growth?

Of the $101 million.

Yes, that is the total amount. So, obviously, it is a small piece of the total.

Nicolas Jansen, Raymond James.

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

Well, Nick, let me describe the generalist role and the economics so I think you have a better appreciation. The generalist would continue to provide veterinary customers with the IDEXX product line, of course, including taking customer orders and shipping kits and consumable out of their warehouse.

They would not generally be expected to have any value added focus from the distributor sales force, as the nature of the relationship with IDEXX would have changed. The distributors -- as we mentioned, an important element here is the distributor -- generalist distributor would not be bound by our competitive products policy, and thus we would expect them to carry products competitive with IDEXX.

The generalist would also earn a margin on IDEXX products that is consistent with industry standards for this type of arrangement, which is more in the single-digit range and substantially lower than the current margin that our distributors receive on our product today. So that is a very significant element of the change.

And so, again, we cannot predict how competitors react or how our distributors will react. We have wonderful relationships with them. We have worked with them closely, in many cases over two decades, and I think we are important to their business. They know our product line very, very well. We have done years and years of training. And of course it generates an important margin to them. So they have got to weigh that versus the opportunity to carry competitive products.

Okay. And just thinking about if one does specifically leave, you said about 5% to 8% of total revenues under the generalist model -- what level of, perhaps, if you wanted to frame potential sensitivity to the downside, what level of those revenues would you consider perhaps at risk that we should be thinking about as we model for 2013?

So first of all, when you say one of the distributors would leave, I would say they are not going to leave us. They are going to move to the generalist model and continue to carry our products in the form that I have described.

I would say absolutely zero, because we have got very, very strong relationships with our customers. I don't think any of the revenues would be at risk. In addition, Nick, I think it is important to understand that in addition to our existing sales and marketing investments, we would be adding another $6 million to $12 million of sales and marketing investments to grow our business. We would augment our budget by $6 million to $12 million.

That can be used for a variety of ways to support our growth strategy. So that is an offset to the move of one of our major distributors from value added, if you will, in the way that distributors are value added, recognizing we sell our instruments direct and we have a direct sales force that works hand-in-glove with our distributors in things like the 4Dx Plus launch.

And then one thing I do want to say is we will move one of our distributors to generalist. It is not a question of if; it's just really a question of when and who.

Okay. Just lastly on -- back to the base business in terms of gross margin. I would assume with the 9.6% consolidated organic revenue growth that we would, perhaps, would have saw a little bit more flow-through to the bottom line. So were there more investments this quarter in anticipation of some of these changes? Or are we thinking about the less of the price realization that you saw was an offset to that better organic volume growth?

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

Those investments have really been in the area of product development --

R&D.

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

Thank you very much. Great quarter, guys.

Ben Haynor, Feltl and Company.

Do you guys consider weather trends completely transitory, or do you notice that warm weather earlier in the year, like we have had this year in the US at least, has some carry-through throughout the remainder of the year?

It is really hard to call. I will say that everybody is talking about it being a pretty big flea and tick season, because of the fact it was a warmer winter, and fleas and ticks generally survive the winter better than they would if it was a really bad winter. But on the other hand, there could have been pull-forward of the annual visit into the first quarter from the second quarter, kind of like some of the speculation we have seen in general with retail sales.

So we think it is a good development. We don't think it is a net neutral, but we will just have to see how the carry-through happens.

Sure, and just one housekeeping one. What was depreciation and amortization during the quarter?

Just bear with me for a second.

No problem.

That was about $12.8 million.

$12.8 million. Okay. Thank you very much.

Mitra Ramgopal, Sidoti.

I'm not sure if you mentioned this already; I just had a quick question, again, if you had any specific criteria as you look to select a distributor in terms of the generalist approach?

I think the criteria that we are going to be using is to select which of our three distributors would be continuing in a value added approach. And we are going to go through that process working very closely with the distributors. They have all been long-standing, excellent distributors for us.

We are going to see who really best meets our strategic needs based on their track record, among a variety of factors; their commitment to the IDEXX line; and a lot of other factors. We plan to conduct a fair and transparent process with our distributors in making this evaluation on which of our distributors would be continuing in a value-added mode.

Miroslava Minkova, Leerink Swann.

I do have a quick one. I appreciate, Jon, that you mentioned you don't expect any impacts from the change in agreements, but just to give perspective -- and sorry if I missed that -- what is the percent, of the 20% of revenue that goes through distributors, how much of this is the big three -- how much is value-added and how much is the big three?

Well, we said that it is the majority, but certainly not all of it. We have said that the move of one of the big three to generalists would be somewhere between -- depending on which one -- 5% to 8% of the 20%, if you will. So you can kind of -- I think that gives you -- I think that answers your question as to -- if you divide 5% to 8% by 20%, you get 25% to 40% of the US volume that goes through distributors would be involved with one of the moves.

But I do want to say that our distributors are an important part of the equation, but we have -- if we're talking about instruments and consumables, we sell our instruments directly. Distributors are sometimes helpful in that process, less than half the time, but we know where the market opportunities are as a result of our market knowledge.

It is our direct sales force that closes the instruments, and you can say similarly on rapid assay, the vast majority of our rapid assay are highly differentiated, important products that really don't have an alternative in the market. And we work with a combination of our direct sales force and our distributors in order to expand the adoption of these unique value added offerings.

Let's take 4Dx and 4Dx Plus as an example. There is nothing else on the market that is a comprehensive tickborne disease screening test combined with a heartworm test, let alone one that has over 60 papers and 10 years of clinical data behind it. And so we really see this as a refinement.

It is not like customers are going to move away from 4Dx, because they have got a relationship with IDEXX as much as they -- even probably more so than they have a relationship with the distributor. The distributor is helpful to the equation; they provide the product. Their reps are -- work hand in glove with our direct sales force, but it is -- we also have a direct sales model, and a highly differentiated product offering, and an instrument installed base, which are all considerations in thinking about IDEXX's growth with this refinement.

Yes, that is very helpful color. Thank you, Jon.

Thank you very much.

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

Okay. I want to thank everybody for being on the call. We are very excited about our prospects for the year. We are very excited about our innovation agenda We really do believe that we are at -- the industry itself, and us at the lead -- at an inflection point where veterinarians are now beginning to appreciate that they can impact practice visits with their own practice management and marketing.

In the same way, probably, dentists figured this out decades ago. And veterinarians are kind of where dentists were decades ago. So there is a big opportunity here, because we know the pet owner responds when the veterinarian is able to communicate the value of the care that they can provide. We see that in individual cases. And so we are very excited with the launch of our new menu, including 4Dx Plus and phenobarbital on Catalyst Dx, and we are very excited about the partners in wellness, with PurinaCare and -- it's a big deal. The VetConnect PLUS announcement is another significant value added piece that comes with whether you have got IDEXX in-house, or Reference Lab, or both, a real value added piece. We think VetConnect PLUS is going to actually be the platform for some additional opportunities in the future, in the same way that five years ago, when we launched SmartService, it became the platform for a lot of new things, and indeed, one of those new things was the launch of VetConnect PLUS.

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

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