Patterson Companies Inc (PDCO) 2021 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by, and welcome to Patterson Companies' Second Quarter Fiscal Year 2021 Earnings Call. (Operator Instructions) Please be advised that today's conference is being recorded. (Operator Instructions)

I would now like to hand the conference over to your speaker today, John Wright, Vice President, Investor Relations. Thank you. Please go ahead, sir.

Thank you, operator. Good morning, everyone, and thank you for participating in Patterson Companies Fiscal 2021 Second Quarter Earnings Conference Call. Joining me today are Patterson's President and Chief Executive Officer, Mark Walchirk; and Patterson's Chief Financial Officer, Don Zurbay. After a review of the fiscal 2021 second quarter by management, we will open the call to your questions.

Before we begin, let me remind you that certain comments made during this conference call are forward-looking in nature and subject to certain risks and uncertainties. These factors, which could cause actual results to materially differ from those indicated in such forward-looking statements, are discussed in detail in our Form 10-K and our other filings with the Securities and Exchange Commission. We encourage you to review this material.

In addition, comments about the markets we serve, including growth rates and market shares, are based upon the company's internal analysis and estimates. The content of this conference call contains time-sensitive information that is accurate only as of the date of the live broadcast, December 2, 2020. Patterson undertakes no obligation to revise or update any forward-looking statements to reflect events or circumstances after the date of this call. Also, a financial slide presentation can be found in the Investor Relations section of our website at pattersoncompanies.com.

Please note that in this morning's conference call, we will reference our adjusted results for the second quarter of fiscal 2021. The reconciliation table in our press release is provided to adjust reported GAAP measures, namely operating income, income before taxes, income tax expense, net income, net income attributable to Patterson Companies, Inc. and diluted earnings per share attributed to Patterson Companies, Inc. for the impact of deal amortization, integration and business restructuring expenses, legal reserve costs, accelerated debt-related costs and an investment gain along with the related tax effects of these items. We will also discuss free cash flow as defined in our earnings release, which is a non-GAAP measure, and use the term internal sales to represent net sales adjusted to exclude the impact of foreign currency. The reconciliation of our reported and adjusted results can be found in this morning's press release. These non-GAAP measures are not intended to be a substitute for our GAAP results. This call is being recorded and will be available for replay starting today at noon Central Time for a period of 1 week.

Now I'd like to hand the call over to Mark Walchirk.

Thank you, John. And welcome, everyone, to Patterson's Fiscal 2021 Second Quarter Earnings Conference Call. First off, I hope you and your families all had a happy and safe Thanksgiving and that everyone is staying healthy amidst the evolving coronavirus trends.

Patterson achieved very strong performance in the second quarter of fiscal 2021. Our results reflect the resilience of our business and our customers and the continued momentum from our focused investments to drive sales execution and operational excellence across our platform. Even amidst the continued challenges due to the COVID-19 pandemic, our team performed at a very high level. We are leveraging our differentiated value proposition and providing trusted guidance and expertise to our customers while also deepening our relationships with our manufacturing partners.

Before we dive into the details, let me touch on several of the key highlights from the quarter. First, on a year-over-year basis, internal sales grew 9%. This included internal sales growth of 12% in Dental and 7% in Animal Health. Second, we grew our adjusted operating margin year-over-year by 130 basis points to 5.3%. Third, we delivered adjusted earnings of $0.63 per share, representing an increase of 62% over the prior year period. Fourth, the continued momentum on our top and bottom line has further strengthened our balance sheet and overall financial position. And importantly, we maintained our focus on the core principles that have helped guide our response throughout the COVID-19 pandemic, protecting the health and safety of our employees, ensuring business continuity and support for our customers, and doing our part to help reduce the spread of the virus in our communities. As cases are unfortunately rising across the world, we remain committed to adhering to these principles and confident they will help us continue to safely and effectively navigate through this period.

Our results this quarter are not simply the product of our team's great work during the past 3 months. They instead reflect the consistent and focused approach we have taken over the past several years to drive improved sales execution, operational excellence, effective mix management, expense discipline and working capital improvement, all while making targeted investments to deepen our value proposition, build our culture and deliver an outstanding customer experience. Our enterprise-wide commitment to improving these core foundational elements has enabled Patterson to stabilize and build momentum in our businesses, strengthen our balance sheet and capitalize on opportunities to outperform in our end markets. We are creating a stronger Patterson that is well positioned to deliver enhanced value for all our key stakeholders.

With that overview, I will now drill down a bit deeper into the performance drivers in each of our segments during the second quarter. In our Dental segment, as I mentioned earlier, internal sales increased 12% driven by strong sales growth in all 3 categories: consumables, equipment and value-added services. This performance reflects the continued recovery of the dental market from the earlier closures at the onset of the pandemic. Unfortunately, this market recovery has been faster and broader than we expected. The market recovery, combined with our strong sales and service execution has, we believe, allowed us to outperform the industry and increase our market share. When dental offices safely reopened after widespread shutdowns, patients returned, driving increased demand for dentistry and for Patterson's range of products and value-added services. We're hearing from our customers that their patients are comfortable visiting their dental practices again with the enhanced infection control procedures, screening protocols and safe patient communication tools our customers have implemented. Patterson's ability to serve as a comprehensive, value-added provider of consumables, equipment, practice management software and technology service and support made us a critical partner for our customers as they reopened and ramped back up their practices. Further, our decision to fully maintain our customer-facing sales and support teams throughout the pandemic provided tremendous support to our customers as they navigated this new operating environment.

Our Dental business delivered year-over-year internal sales growth of nearly 18% in the consumables category, and it is worth noting that our sales growth of consumables was fairly consistent across all 3 months of our fiscal second quarter. As expected, a key contributor of this growth was increased sales of infection control products including masks, gowns, gloves, face shields and disinfectants that are more essential in dental practices today than they were prior to the onset of the pandemic. In our fiscal second quarter, approximately 2/3 of the 18% year-over-year growth in consumables was driven by increased sales of infection control products. However, even after the anticipated widespread distribution of a safe and effective COVID-19 vaccine, we believe there has been a permanent shift in the expectations for infection control measures for dental practices going forward. While demand for infection control products may moderate from their current levels over time, we expect the new normal to remain well above pre-pandemic demand levels over the long-term as dentists and their patients embrace this new standard of care.

More importantly, our year-over-year sales growth in the consumables category extended beyond the increased sales of infection control products. In fact, if you exclude the sales growth contribution from infection control products, we delivered approximately 6% year-over-year sales growth in our non-infection control consumables products. We believe this healthy mid-single-digit growth of non-infection control products is due to the continued investments we've made in our field sales and support teams, which is driving market share gains and increased enrollment in Patterson's Advantage customer rewards loyalty program. Our Advantage program has made it easier and more affordable for our customers to invest in their own practice growth with benefits in equipment repair, service and support and other rewards.

During the quarter, we also continued to see increasing demand for our expanding and highly profitable private label portfolio of products. The strength of our consumables business, combined with our expectation of elevated demand for infection control products going forward and the gains achieved from our customer engagement and retention programs, gives us confidence in our long-term positioning in the consumables category. Internal sales of equipment grew over 5% in the second quarter, led by double-digit growth in the core equipment and digital technology categories. We are very pleased with these results, especially given that beginning in October, we began a difficult equipment comparison with the same period last year. As a reminder, last year during the second quarter of fiscal 2020, we delivered 12% year-over-year growth in overall equipment sales. That performance was primarily driven by growth in the CAD/CAM category through our strong sales execution following the introduction of several innovative new products. The success of our efforts last year also drove strong performance in the third and fourth quarters, which will create a more challenging comparison for the balance of this fiscal year, particularly in the CAD/CAM category. However, our second quarter equipment results demonstrate that our customers remain committed to investing in their practices and believe in the future of the market and their businesses.

Due to the pandemic, we have adapted to find new and creative ways to collaborate with our manufacturing partners in financing strategies, education initiatives, online training and prominent social media and online events. Patterson continues to be the partner of choice in delivering new product launches and technology integration in today's modern dental office environment. As you know, Patterson's expertise in dental equipment and technology integration starts well before and continues well after the initial sale. We have the unique ability to support our customers throughout the entire life cycle of their equipment and technology investments, which we believe is a distinct competitive advantage and an important driver of our overall value proposition. We are very encouraged by the recovery and resiliency of the dental market in calendar 2020. Facing serious challenges, dentists have proactively and enthusiastically adapted to operating in this new environment, ensuring that their patients feel safe in their practices. We are proud to be a part of helping our customers succeed in this environment, and we'll continue to focus on our core operational principles: strong execution, operational excellence and leveraging our differentiated value proposition to help drive practice success.

Turning now to Animal Health. Our Animal Health segment generated total internal sales growth of 7% during the second quarter, led by strong internal sales growth of nearly 12% in our companion animal business. Our top line results in companion animal underscore the underlying strength of the pet market realized from increased pet ownership and spending as well as new product innovation. Our Animal Health sales teams have done an incredible job ensuring that their customers have access to a broad array of products and prescription medications, technologies and services to help their practices succeed in the face of increased market demand. Our field reps, inside sales and support teams work collaboratively every day with our customers through multiple touch points. We also continue to leverage deep relationships with our preferred manufacturing partners to develop strategic business plans that are aligned with our respective goals and objectives and drive value across the supply chain.

Looking ahead, we believe the growth of pet ownership rates that has occurred over the past 2 quarters is unlikely to continue at the current rate. However, while these growth rates may stabilize, going forward we believe the overall companion animal market, with our veterinary customers at the center, will grow at a faster rate than prior to the pandemic, enhancing the growth opportunity for our companion animal business over the long term.

On the production animal side, internal sales in the second quarter turned positive, growing 2% on a year-over-year basis as the market continued to recover from the prior disruption caused by COVID-19. One factor worth noting that positively impacted our second quarter performance is the shift of the fall cattle run and movement to feedyards earlier in the year. As a result, some sales volume moved from our fiscal third quarter into the second quarter. We are pleased with these improving top line results in the production market, but expect the timing benefit from the earlier fall run may create a more challenging production animal comparison during our fiscal third quarter.

As a reminder, on last quarter's call, we discussed supply chain challenges in the swine market associated with the shutdown of packing plants due to COVID-19 outbreaks. While beef and pork packing plants are currently operating and processing their capacity, they have not yet been able to catch up with inventory at the producer level. As the pandemic continues to spread in parts of the U.S. where many packing plants operate, we are working closely with our customers to support their continuing operations. While any significant pandemic-related supply chain disruption would further impact the backlog of market-ready animals being held in production facilities, particularly in the swine market, we believe packing plants have enhanced safeguards in place and are better equipped to more effectively address any impact than they were earlier in the year. We are pleased with the results in our Animal Health segment despite some expected variability in the production market dynamics, and we are confident that our full-service and support value proposition will continue to position Patterson as an indispensable and trusted partner for both our companion and production animal customers.

Before turning it over to Don, I would like to touch briefly on our ongoing response to COVID-19. As I mentioned earlier, the rise of COVID cases points to the need to stay vigilant in our safety measures and risk mitigation efforts. In keeping with our COVID principles, we continue to follow our comprehensive health and safety protocols, including working from home where possible, mask wearing, temperature checks, reducing close contact in our operations, and proactive deep cleanings at our facilities. While our facilities remain open and fully operational, we have specific plans in place to ensure we can continue to support our customers, should our operations be directly impacted due to COVID-19. We are also working closely with all our industry partners to help ensure the safety of our customers' operations so they can continue to provide their vital and essential services. As we have throughout this pandemic, Patterson is prepared to continue to support our teams and our customers as the situation evolves.

And with that, I'll turn the call now over to Don for a deeper dive to our financial results.

Thank you, Mark, and good morning, everyone. Consolidated reported sales for Patterson Companies in our fiscal 2021 second quarter were approximately $1.6 billion, an increase of 9.5% versus the second quarter a year ago. Internal sales, which are adjusted for the effects of currency translation, increased 9.0% compared to same period last year. As Mark mentioned, we believe our results this quarter can be directly attributed to the investments we have made in our business and the focus and commitment of our people to deliver these outstanding results.

Our second quarter adjusted gross margin was 20.6%, which was down 90 basis points versus the second quarter of fiscal 2020. Dental gross margins were slightly impacted by higher delivery costs related to COVID-19. And on the Animal Health side of the business, unearned calendar year rebate dollars in the production animal business also contributed to lower gross margin. However, we consider these factors to be somewhat temporary in nature and believe the strength of our full-service value proposition will continue to support our gross margins for the long term.

Adjusted operating expenses as a percentage of net sales for the second quarter were 15.3%, and favorable by 220 basis points on a year-over-year basis. Last quarter, we discussed the expense savings related to salary reductions, furloughs and reduced work hours that ended in Q1, with those expenses coming back into the P&L in future quarters. While that impact has occurred just as we stated, we have continued to benefit from ongoing expense discipline and from leveraging our cost structure over higher sales volumes.

In fiscal second quarter, our consolidated adjusted operating margin was 5.3%, which represents a 130 basis point improvement over the same period in the prior year. As you'll recall, our consolidated adjusted operating margin has improved for a number of quarters, posting year-over-year improvement for each of the past 7 quarters as a result of our efforts to drive operational improvements and expense discipline along with the added impact of segment mix and the leveraging of higher sales volume. We continue to be encouraged about our year-over-year margin improvement for another quarter.

Our adjusted tax rate for the second quarter was 23.7%, which was a decrease of 100 basis points compared to the second quarter of the prior year.

Reported net income attributable to Patterson Companies, Inc. for the second quarter of fiscal 2021 was $54.1 million or $0.56 per diluted share. This compares to a reported net loss of $33.1 million or $0.35 per diluted share in the second quarter one year ago. Adjusted net income attributable to Patterson Companies in the second quarter, which excludes deal amortization, integration and business restructuring expenses, legal reserve costs and accelerated debt-related costs, totaled $61.1 million or $0.63 per diluted share. This compares to $36.6 million or $0.39 in the second quarter of fiscal 2020 and represents a $0.24 or 62% year-over-year increase. This increase over the prior year is primarily attributed to our strong sales execution, improved mix and the benefit of continued operating expense discipline.

Now let's turn to our business segments, starting with our Dental business. In the second quarter of fiscal 2021, internal sales for our Dental business increased 12.1% compared to the second quarter of fiscal 2020. On that same basis, Patterson sales of consumable dental supplies were up 17.7%, with strong growth in both infection control products and our base consumables category. Internal sales of equipment in the second quarter increased 5.4% versus the same period a year ago, led by strong growth in core equipment and digital equipment categories. For modeling purposes, keep in mind that we had very strong equipment sales in fiscal 2020, and we will be coming up against a difficult year-over-year comparison for the coming third and fourth quarters of fiscal 2021. And finally, internal sales of software and value-added services increased 5.6% in the fiscal second quarter. Adjusted operating margins in Dental were 11.7% in the second quarter, 190 basis point improvement compared to the prior year. While we did experience increased freight and delivery costs related to COVID-19 in the fiscal second quarter, we also benefited from the expense leverage related to the increased sales volume as well as continued operating expense discipline.

Now let's move on to our Animal Health segment. During the fiscal second quarter, internal sales for our Animal Health business were up 6.9% compared to the same period a year ago. Increased pet adoptions and increased attention to pets along with our strong sales execution drove our improved performance in the quarter versus the same period 1 year ago. Adjusted operating margins in our Animal Health segment were 2.9% in the fiscal second quarter, a decrease of 60 basis points compared to the second quarter of the prior year as lower operating expenses were offset by lower gross margins, primarily due to less rebates earned calendar year-to-date within our production animal business and slightly lower point-of-sale margins in our companion animal business.

Now let's look at several cash flow and balance sheet items. During the first 6 months of fiscal 2021, we used $423 million in cash from operating activities. We also collected deferred purchase price receivables of $409 million during the year, which is included in the investing activity section of the cash flow statement. To fully understand our free cash flow, the total of these 2 amounts is a use of cash for the first 6 months of fiscal 2021 of $14 million. Free cash flow, which we have explained and calculated in a table within our press release, decreased $203 million during the second quarter of fiscal 2021 compared to fiscal 2020. The year-over-year decrease is primarily due to elevated levels of accounts payable at the beginning of the fiscal year due to COVID-19 as we carefully managed our cash and which have normalized during the first 2 quarters of fiscal 2021.

Turning to capital allocation. We continued to execute on our strategy to return cash to our shareholders. In the second quarter of fiscal 2021, we declared a quarterly cash dividend of $0.26 per diluted share, which was then paid during the first week of the third quarter of fiscal 2021. On a year-to-date basis, Patterson has returned $25 million in cash dividends to our shareholders. Our Board continues to view our dividend as an important component of returning value to our shareholders, and the current dividend yield provides a meaningful baseline return to shareholders as we continue focusing on our plans to drive improved performance in the business.

Let me conclude with some comments on our outlook for fiscal 2021. Due to the continued uncertainty surrounding the COVID-19 pandemic and its potential impact on business operations, we are not providing fiscal 2021 financial guidance at this time. And now I will turn the call back over to Mark.

Thanks, Don. As we look ahead, I am enthusiastic about our position in each of our end markets and confident in Patterson's long-term value creation potential. We have the right team and the right strategy in place to capitalize on the positive fundamental opportunities of our end markets over the long term, while also being well prepared to manage through potential changes in near-term market dynamics. While our near-term focus remains centered on driving execution and supporting our customers through the pandemic, we are also looking ahead to the future and excited about the opportunities that exist. Our ongoing actions to strengthen our financial position have created improved balance sheet flexibility, which puts us in a strong position to consider strategic investments that will accelerate future growth and value creation.

Before we wrap up, I want to take a moment to express my gratitude for the hard work, passion and focus of the 7,000-plus members of the Patterson team. I'm incredibly proud of how our team has stepped up to support our customers and business partners these past 9 months. And I'm confident our We Are Patterson spirit is one of the key ingredients to our success. I also want to thank our customers and acknowledge their tremendous resiliency during these challenging times. It's a privilege to serve them and to do our part to help them succeed.

That concludes our prepared remarks, and Don and I will be glad to take your questions. Operator, please open the lines.

(Operator Instructions) Your first question comes from John Kreger from William Blair.

Don, you called out tougher comparisons over the next couple of quarters. Anything else that we should be thinking about in terms of the sustainability of the great progress you guys had in the fiscal second quarter?

No. I think that the biggest thing we wanted to make sure that you built into your models was just the outstanding equipment sales we had last year in the third and fourth quarter and the tough comp.

Okay. Great. And specifically the 5.3% EBIT, do you think that's sustainable as you layer in some of the temporary cost cuts?

Yes, John. So hopefully you can appreciate we're just trying to maintain some discipline on not really giving too much guidance. I think if you look at the factors that drove the operating margin improvement though over the last 7 quarters, so expense discipline, segment mix, leveraging our cost structure over higher sales volume, private label initiatives. I think these are all things that we would point to as being sustainable impacts that should continue to help us sustain or improve our margin as we keep moving forward.

Okay. And then one more, as we see cases go up quite a bit in the U.S., what impact are you seeing, particularly in Dental? Are you seeing any practices either close or see declining volumes?

Yes, John, this is Mark. Maybe I'll take that one. Thanks for the question. Certainly, to this point we have not seen and we do not expect any broad shutdown of dental offices. I think really for a couple of key reasons; first, we believe it's very safe to go to dentists due to all the precautions that are being taken to really help ensure the safety of the patients and staff; and second, we believe strongly that going to the dentist is critically important, and that oral health is obviously such a key element in overall patient health.

So while we obviously have seen some recent uptick in cases and we're hearing of potential state and local actions that may be taking -- maybe taken, which could have a perhaps modest effect in some geographies, we're certainly not anticipating any type of broad shutdown. And looking forward while it's difficult to predict I think exactly what's going to happen in the coming months due to the current environment, I can tell you our team is very focused on continuing the progress that we've been making and building on our momentum.

Your next question comes from Michael Cherny from Bank of America.

Maybe diving into one of John's questions a little bit further with regards to the operating expenses and the strong margin performance. Mark, as you think about the actions that the organizations have taken basically since you started, how far along the pathway you think you are in terms of checking all the boxes on the modernization efforts, some of the cost redundancy that you want as you think about the next 3 to 5 years of Patterson's growth potential?

Yes, Michael, thank you. Well first of all, I think there's continued opportunity for us to show progress and continue to execute against many of the things that we've talked about on the call: sales execution, expense discipline, operational excellence, building out our private label portfolio, continuing to expand our value proposition, drive our equipment and technology services segment, building out our software capabilities. So I think there's still a lot to do. We're very pleased with the progress that we've made, but certainly we believe we have a lot of opportunity to continue to progress going forward. And I think also as I indicated, we're in a position now I think given the progress, we're obviously very heads down focused on the near term and the continued implications of the pandemic. But we're also looking further down the line and thinking about ways that we can accelerate our growth, expand and strengthen our value proposition, continue to build scale in the business.

And so again, we feel very good about the progress we're making. We have opportunity and more work to do to continue that progress, and we think there's also opportunities for us to accelerate our growth going forward through strategic and targeted investments.

Michael, I might just add that to Mark's comments, I think the events of the last 9 months with the pandemic have also given us, I'd say, new opportunities to look at different -- our cost structure differently that I think you could add to that mix of things that Mark mentioned.

And then just one more, if I may, diving in a little bit more on the 6% consumables growth that you had ex-PPE. You referenced uptake in the Advantage program as well as share gain. On the latter on the share gain in particular, what do you think some of the new customers that you're winning, or maybe even old customers that you're winning back, have they found most appealing about the current go-to-market offering versus what you may have been selling through or how you were positioned a couple of years ago?

Yes. Thank you. Look, as we indicated, we're certainly -- our growth is accelerating, and that momentum is creating share gains in the market. We actually had pretty strong momentum coming to the pandemic. And I think our team has just done a fantastic job of continuing that momentum, obviously during a pretty challenging period here.

But I think again, this is the work that the team has been doing over the past several years, and we've talked about it, sales and service execution, investments we've made in field productivity. I think our -- really a distinct advantage we have around our equipment and technology portfolio and really the entire product life cycle from start to finish, the tremendous support, collaborative support between our national support center, our local branch infrastructure, our service technicians, I just think our value proposition we continue to invest in it. I think our customers continue to see the value from it. And I think we also have an engaged and focused and motivated team, and are really pleased, obviously, with the overall performance.

So I think it's really just a number of factors, Michael. And I think we're executing against the things that we've been talking about for many quarters now.

Your next question comes from Jeff Johnson from Baird.

So Mark, I just wanted to follow up on that question, on that 6% consumables number. Is there share gains in there? I'm sure that's 5, 7 points, something like that, of the growth. But how do you bridge the, let's say, flat x share gains consumable number or somewhere in that ballpark. How do you bridge that with what seems to be pretty clearly volumes down across the industry, 15% or 20%, maybe even a little more than that if you believe some of the ADA data? Just how are you kind of getting to that flattish kind of core consumables growth, ex or after accounting for those volume declines?

Yes. Jeff, thanks. Look, I think again the key here is we believe we're outperforming the market and gaining share. And so I think that's really point one.

I think point two, certainly we access a number of different data sources, and we're obviously trying to triangulate all the different data that's out there. Based on our internal data, we actually believe patient demand levels are slightly higher than some of the external data sources are reporting. You layer in then the greater usage of infection control products. I think the higher mix of acuity visits versus hygiene visits, I think those are -- those -- all those factors are coming into play here. But look net-net, we're seeing the results from our focused investments in our field sales and service teams, and frankly from a very, I think, strategic and conscious decision that we made at the onset of the pandemic to fully maintain and retain our field sales and service organizations. And I think all those things tied into what we spoke of earlier with Michael in terms of just the general focus on execution over the past many quarters. I think they're all adding up to the performance that you're seeing.

That's helpful. And Don, respecting kind of the tough comp commentary you had on CAD/CAM especially coming out of DS World last year. The offset to that is obviously there seems to be, at least anecdotally, some increased interest in same-day dentistry, given COVID concerns and all that. So what is just kind of the general outlook and what you're hearing in the channel about CAD/CAM demand in general? Again, understanding that comps are one thing you'll have to hurdle the next couple of quarters. But generally what are you seeing and hearing about CAD/CAM demand from maybe a longer-term perspective?

Well, maybe I'll jump in, and Don can add any color. I think your comment, Jeff, about single-visit dentistry is certainly something we believe, and certainly within this COVID environment even more important. Hard to predict the CAD/CAM-specific demand drivers for the future, but we continue to see new and innovative products being launched in the marketplace. We believe that we provide a tremendous organization and execution ability in terms of driving sales and demand of those new and innovative products. We feel very good about kind of the full product life cycle where we can support our customers in terms of their investments and their practices. And as we mentioned, we actually are continuing to see our dental practice invest in their practices, and that gives us a lot of confidence in the future as well.

So we're very focused on helping our customers see that value. We believe our life cycle -- complete life cycle value proposition is a distinct competitive advantage for us. And so we're certainly very bullish on the long-term opportunity from new technology and innovation in the dental market.

Our next question comes from Erin Wright from Crédit Suisse.

Not sure if you can parse this out, but excluding the infection control product, can you speak to the monthly cadence that you saw throughout the quarter, both, I guess, across Dental and Animal Health [around that area]? And what you were seeing kind of on a monthly basis, what that exit run rate was?

Yes. Thanks, Erin. I think as we indicated on the call, we're actually very pleased with the fact that the results that we shared were pretty consistent across the 3 months of the quarter. And we're obviously pleased with the momentum that we're driving in our consumables segment. I will tell you just given the dynamics that we've been facing, a great collaborative effort between our field sales, marketing, supply chain teams. And we're also pleased with the momentum that we've seen continue in our consumables segment into November.

And as we indicated, look, we do expect the demand for infection control products to moderate slightly from their current levels. But we also envision that that's going to be a strong tailwind for us. For the long term, just given kind of the new standard of care, we feel we're very well positioned there. Many of our private label products happen to be in the infection control categories, so really some positive tailwinds for us there.

And then I think as it relates to kind of the trend line in November as well in particular in our companion business, we're seeing good solid trends in November that we saw in the third -- excuse me, our fiscal second quarter as well.

Okay. Great. And then can you detail some of the dynamics impacting the Animal Health margins? When will you lap some of the unfavorable rebate dynamics? And also, can you speak to the lower margins in companion animal? Does that continue in the coming quarters?

Yes, Erin. I think that on the production side, most of those rebate programs are calendar year programs. So what we're dealing with right now is just the -- and just given the challenges of those in that market earlier in the year, what we're dealing with there is just needing to get to January 1 in kind of the new program with an improving sentiment in the production space.

On the companion side, there was some slight margin -- point-of-sale margin -- margins were down slightly. That's just a continuing dynamic that we keep working through with pressure in that space with our suppliers, and that's really nothing new. I think it's the same thing that we're going to be battling for a while. But we -- through all the other -- the private label initiatives, et cetera, we think we have a way of managing through that.

And I would just -- Erin, just add one quick comment there. I think with regard to just some of the manufacturer dynamics that Don outlined. Look, our focus is working strategically with our preferred manufacturer partners really across all of our business, but speaking in particular here to the companion animal segment, those manufacturers that understand the value that we provide throughout the supply chain and the access and the impact we have with our vet hospital customers to impact and move share. In fact, we've actually seen our growth -- where we put joint business plans into place with specific preferred manufacturers, we've seen our growth outpace the growth of others. So we're very confident in the critical role we play in the supply chain. And we're going to continue to focus our sales and marketing efforts and work closely with those preferred partners, where we can bring joint value to our customers and drive good margins for both companies.

Your next question comes from Glen Santangelo from Guggenheim Securities.

Mark, I just wanted to follow up on some of your commentary on the equipment side. If I heard you correctly, I thought you said that both -- the core equipment and the digital technology are both up sort of double digits in the quarter. And I'm trying to reconcile that versus the organic number of just over sort of 5% on the equipment side. And I'm trying to put that into context with the comments you just made on February. I think I heard you mention that consumables sort of continued into November, but I didn't hear you mention anything about equipment.

Yes, Glen, thanks. And maybe Don can comment on just what we specifically outlined in the call. And as I indicated, just given the real strong Q2 from last year, we're actually really pleased with our overall growth in equipment in our 2Q this year. And we specifically called out kind of that core equipment category as well as CAD/CAM. And we do obviously have other categories of equipment to get to your question.

We -- I think we -- as we indicated, we do have a tough comp in Q3, and we're certainly obviously aware of that. And look, I think as we've said a number of times on these calls, obviously our equipment volume can be a little bit lumpy, if you will, over time. But I would say in general, we're very pleased with our equipment performance year-to-date. Our teams have a great funnel and strong backlog of equipment here as we head into the back half. And again, I think what we believe is a distinct competitive advantage that we have, we're seeing that play out in the marketplace, and we're very pleased with our performance there.

Maybe if I could just ask one more question on the 6% growth in the core consumables. I think what we're all trying to understand is where the market is at this point. I think in your prepared remarks, you said you're outperforming the industry, but we -- you also sort of mentioned there was some pent-up demand and some higher acuity visits that may be a small tailwind to those numbers you generated this quarter plus I'm guessing there was some inventory normalization that happened during the quarter.

So can you just give us a sense, is the market back to flat? Or is it still sort of trailing year-over-year? And did inventory normalization play a factor in the results this quarter?

Yes. Look, first of all, I would not -- didn't feel like there's any significant impact here from pent-up demand. I think we're driving the performance that we indicated as a result of what has been a very strong market recovery so far in the Dental segment, frankly faster and broader than I think we would have anticipated 3 or 6 months ago, and really strong sales and service execution from our team. And so I think those are really the key factors.

Yes, consumables benefited from strong growth in infection control products. But as we indicated, our non-infection control product categories grew approximately 6%. And so I think that is a very good indicator of the fact that we are executing against our plans, and we're very focused on continuing to drive that consumables category.

And look, I think it's difficult for us to predict exactly how things are going to continue to play out here, just given the environment. But we're very encouraged by the trends that we're seeing, and we're really pleased with our consumables performance. And it's been a big focus for us, and our team is performing well in this area.

Your next question comes from Kevin Caliendo from UBS.

You made a comment around strategic investments and the like going forward. The tone there sounds a little bit different to me.

I'm just wondering, is there opportunity? Where is the company looking? You're obviously in a much better place financially than you have been over the last couple of years to maybe start being more aggressive, whether it's M&A or partnerships. Where is the company looking to grow sort of externally?

Yes, Kevin, thanks. And I think you called it well. I think we're certainly in a better position today to consider those types of strategic investments, really centering on how can they help accelerate our growth and create value, not only for obviously our shareholders but also for our customers. And so we think there's opportunities that will exist as we look ahead. We're in a better position to perhaps take advantage of some of those opportunities.

And more specifically as I mentioned earlier, again how do we strengthen our capabilities? How do we expand our existing value proposition? How do we further invest in some of those areas that we believe create a distinct advantage for us? How do we continue to build scale in our businesses? Are there market adjacencies or product adjacencies that would make sense, where we have a right to win and the opportunity to drive accretive growth and margin opportunities? Again, all with the goal of accelerating our growth, enhancing the value that we can provide to our customers and driving long-term shareholder value.

So those are, at a high level, obviously, some of the areas that we're looking at. And again I don't want to give you the impression that we're taking our eye off the ball on what's right in front of us here. But we're also looking down the road and thinking about how we can continue to drive shareholder value over time.

That's helpful. Then just can you give us a reminder, I'm just -- as we try to figure out the margin situation here, growth and operating margin, especially in animal.

What's the delta between companion and production in terms of the margins? Is there a meaningful difference between the 2, so if one grows faster than the other, margin is impacted one way or the other?

No. I would say within the Animal Health space, it's relatively consistent. So there's not necessarily a product or inter-segment mix component that you need to think about.

Next question comes from Kevin Kedra from G. Research.

I want to bring it back to cash flow. You mentioned the payables shift over the past 6 months. It seems like receivables may have also been a bit of a headwind towards the cash flow. How should we be thinking about those trends for the balance of the fiscal year?

Yes. Thanks, Kevin. I think we're back in balance. As we mentioned accounts payable, we had pretty high levels of accounts payable that we were managing at the beginning of the fiscal year. Those have normalized. So I think we're in a position now where you should look at free cash flow as kind of growing with the business as we move forward.

Great. And then Mark, you mentioned the strategic opportunities as a potential use of cash. I know when you first came on, there were questions about the dividend and possibly eliminating the dividend at the time. Obviously, you guys have stood by it. And I think we're at the opposite end of the question, which is when do you guys start to think about perhaps returning that dividend to growth?

Well, Don can certainly weigh in here as well. I think as we indicated in our prepared remarks, we continue and our Board continues to view the dividend as a very important part of returning cash to our shareholders. And certainly, that's our point of view that we expect to continue at this point. And obviously as things continue to evolve, we'll look at those opportunities, but we believe strongly in the importance of our dividend.

Yes. I think as we emerge from pandemic here when you look at capital allocation, as Mark mentioned, I think we feel like there's good opportunity to deploy that capital into the M&A space as an example. And so we'd probably be looking at that before we'd be looking at something different.

Your next question comes from Jon Block from Stifel.

Maybe 2 questions, one for Don, one for Mark. Don, I'll start with you. The OpEx as a percent of sales of 15.3% versus, I guess, what was a normalized, call it, 18.2% last quarter. I just want to sort of push here. Is this a new level? OpEx as a percent of sales was consistently in and around 17.5% or 18% of sales pre-COVID. And I'm just curious, have you guys throughout the pandemic been able to find sort of parts of that business where there was an ability to permanently reduce costs, call it without impairing the top line? And then I've just got a follow-up.

Yes, so good question. And we think so. I mean I think as we move forward, we're going to put that to the test a bit. But we've been very disciplined on our expenses, particularly over the last couple of quarters. I think you're also seeing that we felt like our cost structure was in a good position to leverage off higher sales volume. And so that's playing out. But as I mentioned earlier, I think that the pandemic has given us some new opportunities to look at things that we're benefiting from now and making those sustainable components of our expense structure or expense reductions that can help us.

Got it. That's helpful. A great job, it's been incredible to see. I think Mark, just to shift to you, it's fair to say a lot of people have, what, they've flooded back in the dental office over the past couple of months for hygiene, for catchup for hygiene. And then you've got the talk of the vaccine in calendar 1Q or 2Q next year.

And so I'm just curious to get your thoughts. I mean do you think there's a potential air pocket for the industry in the beginning of next calendar year? And I know it's difficult to predict, but hey they come back running into the office in, call it, July, September, October talk of the vaccine. Do you have any concerns about that air pocket early next year?

Yes, Jon, thank you. Like you said, difficult to predict, right, because I think the situation with the pandemic is difficult to predict. But again I think as we've indicated, the dental customers, the dental offices have really taken really strong steps to put all the right safety measures and protocols into place to really ensure the health and safety of their patients and their staff as well, which is a critical component to it.

And so I'm not sure in terms of the specific air pocket in what we would predict there. We believe it's very safe to go to the dentist. We believe oral health is an absolutely essential part of overall patient health. And so look, I think as things continue to progress and we see a widespread distribution of a safe and effective vaccine, I think that's going to be a key indicator for some portion of the population that's decided they're not going back to the dentist yet. And I think that's what we're seeing in some of the patient demand external data.

But again, our data would suggest patient demand is a bit higher than that. And I think as soon as things continue to ease and open up and the vaccine situation improves and is used across a wide range of the population, I think we'll see a nice opportunity for growth in the dental market going forward.

Your next question comes from Jason Bednar from Piper Sandler.

Mark, I wanted to go back to some comments you made on a couple of prior questions. I mean you were comparing and contrasting some of your internal and external Dental data. Some of the external data here is showing a moderating of activity here over the last several weeks. But have you seen at all any moderation in office activity from October to November in the internal data that you referenced?

Well, I would say very modest, if any. To directly answer your question, I think look, we're obviously keeping a very close watch on any potential state and local actions that may be taken. And look, the situation with the virus is evolving on a daily and weekly basis. I mean if you look at kind of the broader -- what's happened across the industry over the last 9 months, you had the sharp downturn, then the quick recovery periods kind of demand trends leveled off a bit. And could there be a slight moderation here? Again, due to any potential state and local actions that may be taken, perhaps. But as I indicated, we do not expect a broad shutdown of dental offices. It's again very safe to go to the dentist.

And while we could see some perhaps slight moderation here, to the earlier discussion, the advancement of the vaccine, the wide distribution of that, we think that will be an important indicator as well as people feeling 100% comfortable to go back to the dentist. And frankly, you could see some pent-up demand as a result of that as we head into '21, but certainly again difficult to predict at this point.

Okay. Yes, that's fair and it's helpful. Maybe second question just for me, Mark. I mean wondering if there's anything you can share here regarding the Heartland Dental contract you have. I believe that contract is scheduled to expire at the end of the calendar year. When should we hear an update? And maybe speak to your level of confidence in renewing that contract in a similar form as it currently exists?

Yes, Jason. So look, as we've said before, we don't comment on specific customer negotiations or timing of agreements. We have a great relationship with Heartland. We consider it a privilege to support Heartland and their practices across the country. And we believe we provide tremendous value to Heartland and their supportive practices and really look forward to continuing to build on our relationship with Heartland going forward. So we're very pleased with, again, our relationship and looking forward to our continued growth and relationship with Heartland.

Your last question comes from Nathan Rich from Goldman Sachs.

I wanted to go back to the Dental segment margins. I just have a bigger picture question. I guess if we look back a few years, those margins were north of 10%. You're now kind of back at those levels as of the latest quarter. It sounds like you've been able to be opportunistic too, when it comes to some of the OpEx savings that you've realized during the pandemic. So I guess when we think about the outlook here, do you feel like a double-digit type operating margin for this segment is sustainable, especially as you continue to grow the business going forward?

Yes. Thanks, Nathan. So -- and as I mentioned, we're going to be pretty disciplined here on trying not to give absolute guidance or forward-looking type statements on that. But I would just say that again, I think what you're seeing is good expense discipline. And really on that side too, the leveraging impact we have with -- as sales have been improving, you can see that the margin has gotten back into the double-digit territory. And I think those are, in our view, sustainable-type items that can help support that.

Okay. That's helpful. And then maybe just a quick follow-up going back to the share gains in consumables. When you look across the various kind of customer segments that you serve between kind of individual practices, larger DSOs, et cetera, could you maybe just talk about the differences in performance that you're seeing there and in terms of where the share gains are coming from?

Yes, Nathan, thanks. Look, I think our performance and our gains and our momentum is really going across the entire customer base across the industry, so private practices, regional DSOs, national DSOs. We've put a lot of increased focus on the DSO segment. We continue to invest in the sales and support teams that support those customers and their unique requirements. And we view that the DSO market obviously represents strong growth opportunities, and we'll continue to invest there. So really, we see the momentum and the growth happening across the board. And we're pleased with that balance that we believe we're generating through our broad customer base.

We are out of time for questions. I would like to turn the call back over to Mark Walchirk for any closing remarks.

Great. Thank you. Thanks, everyone, for your interest in Patterson Companies. And we appreciate your time today. And we look forward to hosting you again on our fiscal '21 third quarter call. Until then, stay safe, and I hope you and your families all have a happy holiday season. Thanks very much.

Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect.