DENTSPLY SIRONA Inc (XRAY) 2007 Q4 法說會逐字稿

Good day, everyone, and welcome to the DENTSPLY international 2007 fourth quarter earnings conference call. Today's conference is being recorded.

At this time I'd like to turn the conference over to Mr. Bret Wise, the Chairman, President and Chief Executive Officer. Please go ahead, sir.

Hi. Good morning, and thank you, everyone, for joining us on our fourth quarter and full year earnings call. This is Bret Wise, Chairman and CEO, and also with us today are Chris Clark, our Executive Vice President and Chief Operating Officer, and Bill Jellison, our Senior Vice President and Chief Financial Officer. I'd like to begin the call today with a few overall comments on our results, and a few strategic items. Chris Clark will then provide some insight on certain operational items that are our focus and Bill Jellison will then provide some detail insights on our financial results both for the quarter and the year. And of course, following our remarks, we'll be glad to answer any questions that you may have.

Before we get started, it's important to note that this conference call may include forward-looking statements involving risks and uncertainties, and these should be considered in conjunction with the risk factors and the uncertainties described in the company's most recently annual report on Form 10K, our periodic reports on Form 10Q, our press releases and our conference call transcripts all which have been filed with the SEC. And this conference call in its entirety will be part of an 8K filing later this week which will be available on our website.

So last night we were very pleased to report record sales and earnings for both the fourth quarter and the full year 2007. Our reported sales for the quarter were $541.5 million which is an increase of 14.9% compared to the 2006 quarter, and excluding precious metal content, sales were $489.2 million, which is a 16.1% increase for the quarter, and that represents the fastest quarterly expansion we've experienced since the third quarter 2002. Growth in the quarter again ex precious metals was driven by 7.1% internal growth, 3.3% acquisition growth to arrive at a constant currency growth of about 10.4% in total, and then on top of that, we had approximately a 5.8% pick up from currency.

On a geographic basis internal growth accelerated in the U.S. to 5.5% and total constant currency growth in the U.S. was 11.6%, obviously aided by the acquisitions that we had completed in the second half of 2007. Internal growth in Europe was 6.1%, and that's continuing a very strong trend we've seen all year, and internal growth for the rest of the world was phenomenal, 12.2%, led by Canada, Middle East Africa, and Latin America, all which grew double digits and Japan which grew high single digits. So we believe in each of those regions, we're certainly growing well in excess of market.

I think there are two observations I'd make on the growth for the fourth quarter, first being that I think the results showed the investments that we've been making throughout the year paid off with accelerated growth. As we enter 2007, you may recall we had committed two additional investments in sales and marketing including expanding our sales force in key certain regions and product categories, investments in improved data systems for our selling and our direct marketing efforts, investments in structure and key businesses in distribution channels differently to accelerate growths and also investments -- expanded investments in clinical education and opinion leader support for many of our businesses. So these investments certainly helped deliver accelerated growth in 2007, and we believe they serve to improve our key growth platforms as we move into 2008. So obviously we're very pleased with those returns.

The second point I'd make is that DENTSPLY has a very strong international platform of businesses. Our sales outside the U.S. comprise 60% of our mix and we're are not dependent on any one economy or region for our growth in performance. So 2007 was a good example of this where we're making investments to accelerate growth in future, particularly the U.S. and we had muted growth in the U.S., we were able to outperform in several other regions to deliver what we believe were very good results overall during the period -- this period we were making investments in the U.S. So I think that's a testament to a strong balance we have in our business and positioning us well for the future, even with uncertain economic prospects at this point.

Earnings in the fourth quarter were $0.45 per share on a GAAP basis and on a nonGAAP basis, which excludes restructuring charges and tax adjustments, diluted earnings were $0.44 a share in 2006 versus $0.37 on that same basis in the 2000 -- excuse me, $0.44 a share in 2007 versus $0.37 on that same basis in the 2006 quarter. So that's an increase of 18.9% year over year. Fourth quarter earnings were actually driven by strong sales growth, but also a full percentage point, or 100 basis points improvement in our operating margins in the quarter excluding restructuring charges.

So just a few comments on the full-year results for 2007. During 2007 in total, we saw our growth accelerate to 11% and we crossed the $2 billion mark in sales for the first time, which is an importantly milestone and encourages six years after we first achieved the $1 billion sales in 2001. Excluding precious metal content, sales growth for the year was 12.1%. That's making it our strongest growth since 2002, and you might recall, in 2002, we benefited from four very sizable acquisitions that were completed in the last half of 2001. Full-year growth, ex precious metal was driven by internal growth of 6.4% for the year, acquisition growth added 1.6% for the full year, and currency added 4.1%. The regional internal growth for the full year was 4.2% in the U.S., 7.3% in Europe, and 9.4% for the rest of the world.

So certainly growth recorded in Europe and the rest of the world categories for the full year were well above market. In the U.S., as you know, growth was muted somewhat by the implementation of our strategic partnership with our dealers. In the fourth quarter, we began to see faster growth in the U.S., which is rewarding as that initiative and our dealers has now anniversaried and is not a drag on our internal growth in the region. Internal growth for the full year was led by our specialty businesses, which grew double digits on a worldwide basis in aggregate. And on a single franchise basis, implants grew at 20% for the full year on an internal growth basis and close to 30% including acquisitions and currency.

Earnings for the full year were $1.68 on a GAAP reported basis, and again excluding tax adjustments and restructuring charges, which is nonGAAP, it was $1.66 a share, a 16.9% improvement over all of 2006. I think it's important to note that complementing this performance was really extraordinary operating cash flow generation, which on a preliminary basis, grew to approximately $390 million this year, which is a 40% improvement over the prior year, and that was aided by improvements in inventory and receivable days particularly in the fourth quarter and also lower tax payment this year.

So overall, we're very encouraged by our accelerated internal growth. The operating margin improvement that we general rated in the fourth quarter, which actually allowed us to show an improvement on operating margins for the full year and again our record cash flow for the full year 2007. Looking forward to 2008, we're very cognizant of the uncertain economic situation we have, particularly in the U.S. As we've said in the past, dentistry is not immune to a slowing, or contracting economic environment, but it is much more resistant than some industries. In addition I would say that unlike some industries a slowing environment in one region of the world is not really likely to impact the other regions in a meaningful way. And we believe we're uniquely positioned to perform well even in a slowing U.S. economy. We have a product mix that's very focused on dental consumables, a balanced geographic mix and a very effective global sales force.

So at this time we believe the slower economy should only have a limited impact on our performance in 2008. And I think we get comfort from the results we had in 2007, where we had slower growth in the U.S., but it was much -- it was more than compensated by strong growth in Europe and the rest of the world. So accordingly we look to have another strong performance in 2008. Overall for the year we believe that internal growth will be in the 5.5% to 6.5% range, and assuming current exchange rates hold for the year, and adding our acquisition growth for transactions we've already completed in 2007, we would expect total growth for the year to be at or close to double digits.

On a diluted earning per share basis we would expect full year 2008 earnings to be in the range of $1.83 to $1.88. And again that would exclude restructuring charges or one-time tax adjustments. That concludes my prepared remarks. I'd now like to turn the call over to Chris Clark, our Chief Operations Officer, who's going to discuss our performance in a couple of key product areas. Chris?

Thank you, Bret. Good morning, everyone. Thank you for joining us on our call this morning. I'd like to take a few moments and -- to comment on a few of our operations that have been the focus of some key growth investments during the year. In particular I'm going to comment on the global implant business as well as some of our country's specific selling organizations. Starting with implants, we continue to be very pleased with our global implant performance. Total worldwide growth during 2007 was almost 30%, driven by organic growth of 20%, which is above the underlying segment growth for dental implants. Our growth was strong in virtually all regions of the world. Our ANKYLOS product line with its platform shift design continues to be very well received in the market and is really helping to drive our strong implant growth. We were particularly excited about the results of two key implant growth initiatives that we executed during 2007.

First, as you know, last January, we merged our North American endodontic and implant businesses together, significantly expanding our sales and marketing resources to address the North American implant market. This market has been an area -- this is an area we've historically been underrepresented for market share perspective. This is a large undertaking, had a significantly amount of ongoing training for the sales force throughout the year. Looking back on the initiative now one year later, we're very pleased as we've proven our capability to grow the North American implant business in excess of underlying market growth and we have certainly gained market share in the process.

Second, during 2007, we launched a unique tissue care positioning of our ANKYLOS product line in Europe. This emphasized the clinical and aesthetic benefits of our platform shift product design. We conducted dentist five symposiums in Europe in late Q3 and also Q4, and these had very positive customer reactions and very strong results on orders. We filed for FDA approval for the key tissue care claims in the U.S., and we hope to expand the tissue care positioning to include the U.S. later in 2008. In total, we're very pleased with the performance of our implant business and the progress we're making in North America was a combination of our endodontic and implant sales forces.

I'd also like to comment briefly on the performance of a few key countries and regions that have also represented growth platforms and key investment opportunities for us. In Japan, we've clearly gained market share in 2007 with organic growth in mid-single digits, this is well in excess of the growth rate of the underlying Japanese dental market. In China and in India we're also seeing strong growth in the 30% to 40% range, in excess of what we believe the underlying market to be growing as we further expand our sales representation in those countries. These are key strategic regions for us, they have increasingly large middle-class segments that are both interested in and can afford dental care that provides both improved function and aesthetics. We're also particularly pleased with our growth in Russia other CIS countries and in the Middle East, as we believe our sales force expansion in these regions is also fueling growth that's above the underlying market rate.

We're continuing to invest in these businesses as well and we'll continue to add sales reps throughout the region. We're encouraged by the results of these businesses, and the impact of our targeted growth investments. We're going to continue to focus investment spending on higher growth market and segments, including areas I've described this morning. As we noted, our -- the rest of the world region including the areas I just mentioned grew organically at 12.2% in the fourth quarter and close to 10% for the year. As the regions now comprise 20% of our mix, they are growing in importance to us and reducing somewhat our dependence on the growth in any one market in the developed regions such as the U.S. I'd now like to turn the call over to Bill Jellison, our Chief Financial Officer, to review the financial results for the quarter and the year in more detail. Bill?

Thanks, Chris. Good morning, everyone. As Bret mentioned, net sales for the fourth quarter of 2007 increased by 4.9% and sales excluding precious metals increased 16.1% in the quarter with 7.1% coming from internal growth in the period. Net sales for the full year were $2.01 billion, an increase of 11% over last year, while sales ex precious metals were $1.82 billion, an increase of 12.1% for the year. The 2007 geographic mix of sales ex precious metals was as follows. The U.S. represented 41% of sales. Europe, CIS was 39% this year, and the rest of the world was 20% of sales. Orthodontics and endodontics had internal growth rates of over 10% for the year and our implant sales grew over 20% for the full year. Gross margins for the fourth quarter were 55.8%, that's ex precious metals, or lower by 1.4 percentage points compared to the fourth quarter of 2006. This drop resulted from the impact of recent acquisitions, foreign exchange transactions and our push to reduce inventories in the quarter, which resulted in lower overhead absorption in the period.

Full-year gross margins were 57.2% ex precious metals, flat compared to last year. Recent acquisitions and foreign exchange impacts offset improvements made in the year. In 2008, we are expecting that operational improvements and product line mix will slightly more than offset those negative impacts. SG&A expenses were $173.5 million or 35.5% of sales ex precious metals in the fourth quarter of 2007, versus 37.9% in the fourth quarter of 2006. Total year SG&A was $675.4 million or 37.1% of sales ex precious metals in 2007, versus 37.4% in 2006, as we leveraged some of the recent investments we made at the end of 2006 and the first part of 2007. Operating margins were 18% including restructuring expense in fourth quarter of 2007. Operating margins were 20% on sales ex precious metals in the fourth quarter of 2007, and 18.9% in the same period last year, including restructuring and impairment charges. Operating margins ex precious metals on a nonGAAP basis, excluding impairment and restructuring charges in both periods were 20.3% for the fourth quarter of 2007, compared to 19.3% in the fourth quarter last year, a 100-basis point improvement.

Full-year operating margins were 19.5% on sales ex precious metals in 2007, and 19.4% in 2006. Operating margins on sales ex precious metals on a nonGAAP basis, excluding impairment and restructuring charges in both periods were 20.1% in 2007, compared to 19.9% -- excuse me -- last year, an increase of 20 basis points in 2007. This improvement included the negative mix impact of our recent acquisitions. Our targeted level of improvement and operating margins on average over the next few years is 30 to 50 basis points per year. This improvement is expected to come from new products, improved product mix, operating efficiencies, and leveraging of overhead costs. Net interest and other expense in the fourth quarter was $.4 million or $.2 million lower than last year's fourth quarter. Interest expense was $.7 million higher in the quarter than last year, while foreign exchange transaction and other expenses were $.3 million lower in the quarter than last year. Net interest and other income for the full year was $3.2 million, which was an improvement of $3.2 million compared to 2006. Net interest income was $2.6 million in 2007, compared to interest income of $1.6 million in 2006.

The impact of foreign exchange transactions and other items was income of $.6 million in 2007 versus a $1.6 million expense last year. We expect net interest expense will run approximately $0.01 per share per quarter higher in 2008 as interest expense -- or interest income is negatively impacted by lower rates and current European interest rates are now higher than those in the U.S., negatively impacting our net investment hedges. The tax rate for the fourth quarter was 28%, compared to 17.9% in the fourth quarter of 2006. However, the operational tax rates in these periods were 30.7% in the fourth quarter of 2007, and 29.2% in the fourth quarter of 2006. The full-year tax rate in 2007 was 27.5%, compared to 28.9% in 2006, and the 2007 tax rate of 27.5% included an operational rate of 30.4% compared to 30.6% in 2006.

The company benefited from various tax adjustments of $9.9 million in 2007, compared to $4.8 million of favorable adjustments in 2006. The favorable tax-related adjustments in 2007 resulted primarily from the deferred tax impact of a German tax-rate change which became effective January 1st, 2008. This change reduces Germany's overall corporate tax rate to roughly 30%, effective January 1st, 2008, from approximately 39% in 2007 and prior. We are expecting a future operating tax benefit beginning in 2008, from both this change and a global business project currently underway. The operational rate for 2008, which is currently expected to be at least 100 to 150 basis points lower than the operational rate in 2007. To better understand and follow some of the following comments, you can look at the tables included in our recent press release.

Net income for the fourth quarter of 2007 was $70 million or $0.45 per diluted share, compared to $64.9 million or $0.42 per diluted share in the fourth quarter of 2006. Net income in the fourth quarter of 2007 includes the net of tax impact of restructuring and other related items of $1 million, which is $0.01 per diluted share. The fourth quarter of 2007 also includes a net reduction to income tax expense of $2.5 million or $0.02 per diluted share from tax-related adjustments. While the fourth quarter of 2006 included a net of tax impact of $1 million, $0.01 per diluted share for restructuring and other related items, and a net reduction of income tax expense of $8.8 million or $0.06 per diluted share related to those tax adjustments. On an adjusted basis, earnings excluding restructuring and other related items and tax adjustments in both periods, which constitute a nonGAAP measure, were $68.5 million, or $0.44 per diluted share in the fourth quarter of 2007, compared to $57.1 million or $0.37 per dilute share in the fourth quarter of 2006, an 18.9% increase in diluted earnings per share.

Net income for 2007 was $259.7 million or $1.68 per diluted share. The 2007 earnings included the following items: restructuring and other related items of $10.5 million, which is $6.7 million after tax, or $0.04 per diluted share, net reduction of income tax expense of $9.9 million, or $0.06 per diluted share related to tax-related adjustments. Net income for 2006 was $223.7 million or $1.41 per diluted share and the 2007 earnings included the following items: restructuring and other related items of $7.8 million, $5 million after tax or $0.03 per diluted share and net reduction of income tax expense of $4.8 million, which is $0.03 per diluted share related to tax-related adjustment. Net income for comparability analysis, excluding the other items noted above, for the years ending 2007 and 2006, which constitutes a nonGAAP measure, were $256.4 million and $224 million respectively. This represents earnings of $1.66 per diluted share for 2007 compared to $1.42 in 2006, an increase of 17.1%.

Now let's look at the cash flow and a few balance sheet items. Operating cash flow ended strong with $133 million generated in the fourth quarter of 2007. Operating cash flows for the year were approximately $390 million compared to $272 million in 2006, or an increase of 43%. The first quarter of 2006, however, included $23 million of cash outflow for the tax payment associated with the repatriation of foreign earnings which was made in the fourth quarter of 2005. Adjusting for this cash flow in 2006, operating cash flow would have increased by 32% during 2007. We expect strong cash flow again in 2008. However, we expect to have higher tax outflows this year than in 2007.

Capital expenditures were $64 million for the year, yielding free cash flow, operating cash flow less capital expenditures and dividends, of about $301 million for the year. Depreciation and amortization for the year was $50.3 million and capital expenditures in 2008 are projected to be in the $70 million to $80 million range, with depreciation and amortization of approximately $55 million to $60 million. Inventory days ended the year at 95 days for 2007 year end or a one-day improvement from 2006, but 11 days lower than at the end of the third quarter of 2007. Receivable days ended 2007 at 51 days, compared to 60 days at the end of the third quarter of 2007 and 56 days at the end of last year. So we've made some excellent improvements in the number of working capital categories this year. We are very proud of that progress, and we've made -- in reducing our working capital and also the strong cash-flow results for 2007.

The balance sheet remains very healthy at the end of 2007. The year ended with $316 million in cash and short-term investments compared to $65 million at the end of 2006. Total debt was $483 million at the end of 2007, compared to $370 million at the end of 2006 reflecting our acquisitions and stock repurchases during 2007. Net supply repurchased to 3.4 million shares for $125.4 million at an average price of $37 per share in 2007. Based on the company's authorization to main up -- maintain up to 14 million shares of treasury stock, we still have approximately 1.9 million shares available for repurchase. And as Bret stated we are comfortable with internal growth expectations for 2008 of 5.5% to 6.5%, with total sales growth approaching or exceeding 10% for the full year. We anticipate earnings for 2008 to be in the range of $1.83 to $1.88 per diluted share. And that concludes our prepared remarks. We'd be glad to answer any question that you may have at this time.

Thank you. (OPERATOR INSTRUCTIONS) And we'll go first to Steven Postal with Lehman Brothers.

Hi. Thanks a lot. Good morning, and congratulations on a great year.

Good morning, Steve.

Thank you, Steven.

Can we just start with the economy, because that seems to be the focus of a lot of people. Could you maybe discuss how economic conditions impact the business in the U.S. and how you think that compares to Europe? And then drilling down there, what you're seeing in both those regions, and if you're seeing any particular business in the U.S. that having, that's seen an impact from the change in the economy?

Okay. Steven. This is Bret. I'll take a stab at that. I think as we said before, just as a general premise, dentistry is more resistant to economic downturns than most industries. In the -- it differs in different regions, because the reimbursement comes from different places, but from the U.S., for instance, our reimbursement comes from our jobs. Our insurance comes from our jobs. So if we have a job loss in the U.S. there could be a slight downturn in the ability to pay for dental procedures, and that can have an impact.

I'd say, as you look at the portfolio, our portfolio, it's a very balanced portfolio between lab products, general consumables and in the specialty items. Certainly I would expect that the specialty items, excluding endo, are the most vulnerable, and that's because implants and orthodontics are more discretionary than, for instance, an endo procedure where there's pain relief involved or even general dental procedures where you need a restoration of some sort. Certainly what we have seen in the marketplace is that the implant market has slowed. We know that because the vast majority of the market is represented by public companies, and they disclose their growth rates. So as we look at the U.S. market, we know that it has probably slowed from the upper teens to the lower teens or maybe -- we still think it's growing double digit. Our growth is faster than that, but as we've said before we think that's because the amount of resources being applied to a business with very small market share.

In orthodontics, because it's discretionary and can be deferred, and it's expensive, that's also an area where you could see a slowing -- a case starts, for instance, if we hit tough economic times. So those are the two that I would expect to be most impacted. In Europe, on the other hand, reimbursement most often comes from the government or there's no reimbursement at all, for instance, in Italy. And experience -- our experience has been that rather than with economic changes, it's government reimbursement changes that drive the dental markets in those parts of the world. So at this point, as we look at our portfolio and we've gone back and looked at the last several recessions to see what happened in those recessions, we would expect there to be some modest impact on growth, perhaps more in the specialties than in the general dental areas from an economic recession, but we wouldn't expect it to be dramatic, and past history has demonstrated that as well.

Bret, that is very helpful. Can you guys just go into the extent you can or want to, your exposure in specialty implant and then specifically in U.S. implants?

Sure. Our exposure and specialty is about 40% of our business. Certainly the biggest part of that -- of to three segments within specialty, which are implants orthodontics and endodontics, endodontics is the largest segment for us. Implants and orthodontics represent about 10% to 15% of our mix and endodontics slightly larger. So we are vulnerable to economic changes, I think, in those two areas. With respect to implants, however, our market share is very low, so the percentage of our mix in the U.S. in particular that's represented by implant is less than 5% of our U.S. sales. So I think that although a slowdown in implants would have an impact on us in the U.S., I don't think we're highly vulnerable to that, at least at this time, and particularly in a period where we're putting a lot of resources towards that business and I believe taking market share. So we may be able to mitigate any impact from the economy just through pure muscle at this point.

Okay. And then just a question on cash flow. How should we think about working capital trends in 2008? You went into great detail about what you've done with inventory and DSO in 2007. Could that possibly remoderate a bit in '08?

Yes. This is Bill, Steven. I think from a cash flow perspective we feel very, very good about how we ended the year in both inventory days and also receivable days. Looking into 2008, I'd say that we'd be comfortable in that kind of 50 to 55 day range, which I think is very good performance in general. We actually ended at 51 days at the end of the year, so I don't believe that we'll see day improvements necessarily in 2008, although we've got a lot of additional focus within those areas, especially in the international markets. From an inventory perspective, we made good improvement in the fourth quarter, but for the year last year, we really only reduced it by about one day. I think we have some good expectations of some continued improvements in inventory over the next few years, and I'd probably say in the maybe two to three day per year kind of range.

And, Bill, I think you guys may have commented that you were making an effort to push down inventories as I guess you were just alluding to. Was there anything special the in the fourth quarter, or is this sort of the listening-term initiative to become more efficient there?

I think it was a couple different things. As you saw probably through last year, inventory kind of crept up on us for a couple different reasons, some planned, some unplanned, up through the third quarter, and we specifically had some very detailed attention on it at a number of different levels during that quarter to bring that down, but knowing we were still going to have a very good kind of year end performance. And I'd say that as we move forward this year, while we would expect maybe some creep in the first six to eight month, which we typically would do, I would hope that the expectation is to mitigate that in that first six-month period, so that we can have that two to three-day improvement for the entire year.

Okay. Thanks a lot.

You bet.

We'll go next to Jeff Johnson with Robert W. Baird.

Good morning, guys. Thanks for taking my questions.

Good morning.

A couple things here. Bret, just going to your point on the implants in the orthodontic business here in the U.S., are you seeing any early signs in the orthodontics business? I know your implant business has been up. I didn't hear, I don't think, any Q4 specific comments on orthodontics. If you could just maybe talk about that?

Sure. The orthodontics -- our orthodontics business is mostly U.S. We have a growing representation outside of the U.S., but I would say it's still heavily weighted towards the U.S., and it performed very well last year, double-digit growth throughout the year. We -- in certain businesses, for instance, in orthodontics, we get occasionally case starts for the industry, and what we -- we don't have it yet for the second half of the year, but for earlier points in the year and looked like to us like case starts were slowing slightly as we moved through 2007. Now in our own business, that was compensated by -- we introduced some new products early in the year or very late last year and in particular, we implemented -- or introduced this product called innovation C, which is a highly aesthetic bracket that has the efficiencies of the metal bracket and it comes to the market at a higher price point than our traditional brackets. So we were still seeing strong growth in 2007 as more or less we were upgrading customers who were taking share through the introduction of that new product. But I think it's still early to say what will happen to the orthodontics market and we'll probably be monitoring that closely as we move through this year, but at this point, the market looks okay.

And Bret, is there enough ramp room on innovation C, the mixed benefits there to power through like you said on the implant side, you're able to kind of power through the softening market there given the sales force changes you made? Can innovation C on mix do that even if the market does slow in '08 for you? And secondly, I think you guys were implementing, like, a centralized manufacturing even on the orthodontic side where you could place brackets on a model and send that out to the dentists. Are those plans still in the works, and could that help at all?

Well, I think there are a number of factors that could help our business in particular in '08, in orthodontics. One -- mainly the things are mainly things you've alluded to. Certainly the penetration of innovation C is still pretty low. So that product has a ways to run. And whether that's upgrading our own customers to innovation C or taking share from customers with innovation C, obviously that has the strong potential to mitigate in part at least if the market itself starts to slow in some meaningful way. And the second issue you raised was new product introductions or new product/service introductions, which includes what's called indirect bonding which is where you impregnate a tray with implants, and that makes us much more efficient -- or excuse me -- with orthodontic brackets, impregnate a plastic tray with orthodontic brackets and that makes the procedure to place the brackets on the teeth much more efficient for the orthodontist, and we are introducing that service later this year. So that could have a positive impact as well.

Great. Just for Bill, a couple questions, I guess, from a modeling standpoint. It's a minor point, but I thought CapEx growth in line with organic growth and looks like it's going to be a little higher in '08. Is anything driving that? And then just gating of operating margins at 30 to 50 bips for '08, currency hopefully falls off -- or not hopefully, but currency might fall off here as we get into '08, so that should help maybe on the gross margin line as you get through the [sultan] anniversary, middle of the year, that should help the growth margin. So will operating margin in the back half of the year be stronger than first half, or how should that play out?

Excuse me. Yes. This is Bill. I think from our perspective, as you mentioned we have the sultan that doesn't anniversary until the end of the second quarter, and that's absolutely a drag on our comparable rate of about 20 to 30 basis points on that. So we would expect that from an improvement perspective to probably look better as we move into the second half of the year. But the 30 to 50 basis points that we talked about, that's really a three to five-year average that we targeted in at, and I'd say that for 2008, we'll probably be more at the kind of the mid to lower end of that at this point, primarily because of the negative mix drag that's taking place there and some negative PPV variance mix. Keep in mind that purchase price variance mix occurs in the gross profit margin rate and we pick up the benefit on the translation side as we convert those earnings into U.S. dollars.

Right. And then, on the CapEx, Bill?

And then on the CapEx side, yes, the CapEx side is really being driven from some of the additional growth that we've had. As Bret mentioned we had double digit growth in all three of the specialty categories right now. We're continuing to add capacity in a couple of those different areas to make sure that we're positioned for future growth.

Great. That's all I've got, guys. Thanks a lot.

Thank you.

We'll go next to Anthony Ostrea with JMP Securities.

Hi, guys. Good morning.

Good morning.

A few questions here. Just first on your U.S. distribution business, can you -- at least in view of the anniversary of that event, can you tell us what -- how it performed in Q4, and as it's anniversaried, what your expectations are for 2008?

Sure. Anthony, it's Chris. As we looked at it, we certainly saw a ramp-up in the U.S. consumables business in the fourth quarter. As you know, with the anniversary implementation of the strategic partnership program. I guess I would characterize it by saying, as you compare the U.S. growth rate in Q4 to what we had in the first three quarters, most of the improvement in the overall U.S. growth rate in the quarter came from the consumables business. So that would be the way I'd characterize, candidly, the impact of that now that we've anniversaried. Obviously, as we look forward, we're continuing to really enjoy, in our mind, the benefits of not only the transactional data, but, candidly, the tighter relationship and the increased collaboration with the distributors, and I would expect that what we saw in terms of the improvement in Q4, we would expect that to continue as we move forward.

And maybe just to ask a little bit more about those collaborations, are you seeing or are you able to really monetize those -- that data that you're getting from the industry there, and maybe just cite one or two examples?

Yes. I guess what I would say is that, yes, the benefits are severalfold. As you look at it, not only does it help us in terms of really targeting -- we're calling and marketing it to the right dentists, but also are we using the right message and talking about the right products at that time. So I think that we are seeing improvements, if you will, in terms of the impact of our sales marketing activities through that -- as a result of that collaboration, but I think the other piece is we're now working with the distributors candidly in a much tighter manner, really focusing on specific customers and specific opportunities that their data and our data together identify. So we're excited about that.

Again, and then on guidance, I'll take a stab at a few line items in your guidance. So top-line internal growth of 5.5% to 6.5%. And then you indicated that -- at least you talked a little bit about specialty, particularly in the U.S. and in Europe. Would you say -- and I think I have these numbers correctly, but I think you grew 4% in the U.S., 7% in Europe, 9% plus in the rest of the world in '07. Are you expecting the '08 numbers to more or less reflect what you did in '07; i.e. lower growth in the U.S. right around the 4% range and the rest of the world still and Europe picking up the -- well, if you can call it slack in the U.S.?

Well, it's hard to be risk-specific on regions, but let me take a stab at your question. In 2007, we grew 6.4% in total, and I think after nine months, we were running at 6.2%. So we got a little bit of boost in the fourth quarter. Frankly, we had a little bit of an easy comparison in the fourth quarter. When we came out with 5.5% to 6.5% guidance, that's based on bottom-up analysis by region. And obviously it takes into account the U.S., or at least the U.S. economy -- the signs we see in the U.S. economy. So if things don't improve in the economy, we would probably think we're towards the lower end of that range. If things improve, we think we could be above that. If I'd have to guess right now, I would say that despite the weakness in the U.S. economy, I would expect our U.S. growth to improve a little bit in 2008, for the reasons that Chris just discussed and that you commented on with the distribution change we made retarding '07 growth a little bit in that segment. And Europe, we've been growing really well for a couple years now, 6%, 7% growth, which we think is above market in that region of the world. So if I had to guess, I would probably think the U.S. would pick up a little bit versus '07 and Europe might come down a little bit versus '07. But in total we're comfortable in that 5.5% to 6.5% range.

Just maybe as I move down the income statement, I heard, Bill, what you said about operating margins. You're saying 30 to 40 basis points roughly in '08. Below the operating margin line, did you say a negative impact of $0.01 per quarter in other income, and then also a 100 to a 102 basis points improvement or actual a lower tax rate in 2008?

That's exactly right, Anthony. So you'll see a negative impact on the interest in other category, and you'll see a positive pick up on the tax end.

I haven't really calculated it, but does that wash out on the other income on the tax rate, or is the tax rate benefit actually improving?

It really depends on what the ultimate tax rate benefit is associated with that, Anthony, but it's probably pretty closely. There's probably a slight negative impact between the two.

Okay. Great. That's all I had for now.

-- on the tax side anyways.

Okay. I'll -- go ahead.

I'd like to point out, too, and I think this is clear from Bill's remarks earlier, but just to make sure, that 100 to 150 basis point improvement comes off the operational rate for this year, not the GAAP rate, because the GAAP rate was forced down artificially by that change in the German tax law and as we adjusted our deferred tax items.

That's correct.

And just to remind me does the operational tax rate in '07, was that 30. -- 30.4%? Okay. Great. That's all I had for now. Thank you.

We'll go next to Jon Wood with Banc of America.

Hey. Thanks a lot. Has the merger and acquisition pipeline change at all over the last few months? Are prices getting any more reasonable? And then would you guys be interested if there was an appropriate equipment asset out there, would you guys look to do an equipment deal, or are you going to stick towards the consumables?

On the pipeline, I would say that we're still very encouraged by the discussions we're having with other parties. We think the pipeline is pretty robust. With respect to pricing of deals, I haven't seen much change, frankly. I think deals are being priced at about where they were, and they have been historically, for the past 24 months or so. So I don't see a big change there. Now that could change if we start to see some of the other participants in the industry's growth rates change or decrease, then you might get more reasonable evaluations. And for some reason, I forgot your second part of your question.

It was just on your enthusiasm for any equipment type of transactions.

Yes. Well, equipment represents 25% to 30% of the industry, large equipment. Our appetite thus far has been for consumables and small equipment. I don't want to say never on the larger equipment, because you just don't know what the future holds, but I think we have to be convinced that it would improve our overall business. It would give us a more stable product mix and more stable growth platform and perhaps some pull-through of consumables. And so at this point, I think that large equipment is -- we're watching that segment closely with [cone beam], some of the things that are happening as it gets tide to the implant-type businesses, but at this point I think we're still more focused on consumables and small equipment.

And also kind of where the economy is at today and kind of the first earlier stages that if anything, that's a negative impact on equipment plays that you kind of wait and see how those are sorting out first.

Sure. And then, Bill, I might have missed this, but did you put any buybacks in the numbers for '08?

We do not have buybacks in the numbers.

Okay. And then one last one. Europe, do you see anything on the horizon as far as reimbursement is concerned that might be an impact in 2008?

Nothing that's imminent.

Okay. Thanks a lot.

Jon, just to correct maybe that last statement, as far as buybacks is concerned, we don't really have any additional incremental buybacks, but we do include buybacks to offset options in kind of the expectation of the numbers.

Okay. Thanks, Bill.

(OPERATOR INSTRUCTIONS) We'll go next to Greg [Alter] with the Great Lakes Review.

Good morning, guys.

Good morning.

I wonder if you could tell comment on your R&D spending for year in '07, and then your expectations for 2008. And if you could detail the number of new products and some of the more significant ones that you see either introduced in '07 or coming for '08.

Okay. Let me address the first question. I'm going to let Chris comment on things we introduced in '07, although I think we've covered most of them on previous calls. And we'd like to not forecast a lot of what we're going to do in '08, because we don't want our competitors to know where we're headed. But R&D spend in '07, I think, was right in line with historical rates, somewhere between 2.5% to 3% of revenue, and we would expect it to be in that same category, probably toward the higher end of our category or that range in 2008. And I'd like to remind you that some of our R&D spend on top of that 2.5% to 3% ends up coming from the cost of goods line, when we work with outside parties to license their technology. So in total R&D spend is probably closer to 4% of revenue on an ongoing basis when you include the use of outside technology. Chris, do you want to comment on things we introduced in '07?

Yes, Greg, as you know we commented on that, excuse me, in previous calls. We continue to be very active in that front. If you look back over the year, certainly our rate of innovation was at least at, if not slightly higher than, what we've done in previous years. Just to highlight a few, we talked a little bit on innovation C and obviously the positive impact that had not only on the orthodontic growth but also in the mix. And again, the concept of an all ceramic self-ligating bracket. That combination is extremely powerful. I commented previously, I think, on the GT series X endodontic file. Basically that utilizes the M wire technology coming through the sports wire acquisition, and again, that provides a significant boost to a really important endodontic line, our GT series, in that it now provides many improvements in reduction of cyclical fatigue in the files.

And file breakage is certainly one of the major concerns with endodontists, and this certainly helps to address that concern or alleviate -- certainly make sure it's comfortable with the procedure. So I think that's a huge plus. We've chatted previously about a couple of the larger ones in the restorative areas, certainly the B4, which is the pre-additive for impressionable materials that improves accuracy even further, and also the Lasting Touch paint-on polish which, again, is really a nice aesthetic improvement to an overall restoration. So, again, I think that just to comment, I think we're pleased overall with the year in terms of innovation. You saw innovation on a number of fronts across our different franchises and businesses, and I think that you can expect more of the same as we look to 2008.

Yes. And I think, in total, Greg, we introduced 25 to 30 new products this year, kind of in line with what we did in 2006, and many of the ones Chris noted are important, but because most new products or new brands in dentistry end up being small, $3 million to $5 million in revenue, I think the continuation of introducing a number of new products, meaning something in that 20 to 30 is as important as any one new product in the mix.

Okay. That's helpful. And relative to the off-shore situation, any update that you can provide us regarding that?

You're talking about the lab business?

Yes.

Oh, sure. Just for everyone on the call, what Greg is referring to is that we run a service for our U.S. labs whereby they can outsource to us the production of crown and bridge units, mainly crowns, which are produced outside of Shanghai and then shipped to them. It's about a six to seven day turnaround at a very low cost, just because of the differential and labor rates and so forth, and we've been ramping that business up every quarter. The number of technicians continues to grow. I would say the number of companies or customers that seek us out for that service has grown both in the size of the customers and in the pure number of customers using the service, and I'd remind you that we only provide that service to customers who buy our traditional lab products. People can't come and buy stuff -- buy those units from us on a one-off basis. So it continues to grow. Access to highly trained technicians is always an issue. We work with the universities in China to get the highly trained technicians. But we're very pleased with the progress of the business, and also the acceptance by the U.S. customer base, and we only sell those products in the U.S. They don't go to any other markets around the world.

And Greg, I guess I'd always add that's an area where we need to invest in terms of additional capacities. So go back to the capital comment for next year that certainly is an area we're putting some money in.

Okay. And is there any fallout still from certain of these discontinued off-shore dealers shipping products into the U.S.?

Yes. From a gray marketing standpoint, , it is an area, Greg, where we have to remain extremely diligent, as there's a lot of creative ways to -- that folks to find ways to get product back in the U.S. and frankly, for that matter, into Europe and other developed countries. At this point, as you look back over the last six months, the last year, we invested in a couple of different areas. I mean, obviously first, we have made some pricing changes, some changes in terms of packaging and labeling in terms of how we mark our product for specific export countries and also for specific export customers. We also then discontinue dealers that -- in various areas, including Israel, Algeria, Tunisia, Lebanon, Morocco, I mean it was numerous dealers that we identified as basically sell gray back into developing markets, and we discontinued those customers, or shipping to those customers both in Q3 as well as Q4. We have got several as well right now that we're continuing to investigate. So again, I think that it's an area where we made a considerable amount of progress, but it's an area where we need to remain

Okay. That's very helpful. And relative to the merger of the U.S endodontic and implant businesses, affecting the personnel there, is that completed now?

Yes. You mean the merger of the two businesses?

Yes.

Yes. It was a Q1 2007 event. And then of course, we had ongoing training, because we had to train both sales forces on the alternate products. So we had ongoing training throughout the year as we tried to bring the now combined sales force up to a level of proficiency in endodontics and implants.

And you would consider them at that level of proficiency where you want them to be?

I think they're largely there. There's still some work to be done, and, frankly, there's always work to be done. But we're well along the learning curve now and I'd say the majority of those reps, the vast majority of the reps have a high level of proficiency involved.

If you look at the North American growth rates, particularly as we mentioned in implants, certainly that's indicative of the fact that they've hit their stride and, I think, are increasingly comfortable, and again we believe we're taking share in that market.

Okay. And one last one for Bill. What is your -- the company's current derivatives position?

The derivatives, I think, at the end of December is about $142 million liability.

All right. Thank you very much.

We'll go next -- we have a follow-up, Anthony Ostrea, JMP Securities.

Hi. Thanks for taking the follow-up. Bret, you had mentioned earlier about the case starts in the U.S. also, and I believe you had mentioned that you had the first-half data and it looked like there was some softening but not a lot. Maybe can you just walk us through maybe in past recessions what -- how much of a slowdown has there been in the U.S. case starts? Has it ever turned negative? If -- and maybe if you can quantify maybe the reduction in the growth rates in U.S. case starts, that would be helpful.

Let me -- I'm going to have to avoid part of that question. Frankly, as you go back to the recessions -- the previous recessions we've had, I mean, they date back to '01, there was a recession, then you go back to '90, then '82 and '80. So they're pretty dated and frankly on the orthodontic side, I don't have the case start histories for those downturns in the industry. What I was commenting on earlier was that case starts in ortho has not grown rapidly for some time -- I don't know -- five, six years, but the ortho businesses have been growing because of innovation. And what we saw earlier in the year, the first half of the year, for instance, we saw case starts were flat to slightly down in the U.S. It's not a big surprise to us, because case starts in ortho haven't really grown a lot for some period of time. So the fact that they're flat would be a continuation of the previous trend, slightly downward would indicate to us that there's some softening in that market occurring. So at this point, I don't think it's a -- I don't think it's a dramatic impact on the ortho market, and we're monitoring it closely, but the data we're getting is pretty dated by the time we get it. And at this point our own business is better -- is probably a better indicator for us than that market data just because of the time lag in getting it.

Great. That's all I have. Thank you.

Having no further questions, Mr. Wise, I'd like to turn the conference over the to you for additional or closing comments.

Okay. Well, I think we're pretty proud of where we finished 2007. We accomplished many of the objectives that we had set forth at the beginning of the year, including making key investments to accelerate growth, getting our business development activities ramped up, and redeploying cash flow in a meaningful way. So we're heading into 2008 with a fairly high level of confidence. We're very cognizant of the softening of the U.S. economy and what impact that will have on us. And you can rest assured that we'll be sure to react to that as we see that softening occur, if it occurs. And we look forward to continuing to update you on our progress as we move through 2008. So thank you for the time this morning, and we look forward to talking to you further as we move through the year.

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