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Dental Industry Financial Update
Dental Trade Alliance
2008 Annual Meeting
Ed Snyder
FTN Midwest Securities
Senior Analyst, Managing Director
July 25, 2008
1
Introduction
FTN Midwest Securities
– Division of First Horizon National (NYSE: FHN)
An institutional investment research firm
– Sector focus: health care, technology and business services,
manufacturing and industrial, consumer, and financial
institutions
– 30 senior analysts
– Our primary focus is Independent Market Research (IMR)
2
Introduction
Ed Snyder
– Senior Analyst, Managing Director
– Coverage group
Dental Manufacturers (XRAY, SIRO, ALGN, BLTI, YDNT)
Dental Distributors (PDCO, HSIC)
Dental Laboratories (NADX)
Orthopedic Implant Manufacturers (SYK, ZMH, SMA)
Medical Waste Treatment (SRCL)
– Dental research coverage - 16 years
3
Presentation Outline
Brief historical overview
– Dental expenditure growth
– Industry performance in recessionary periods
Current investor perception of the dental industry
– Valuation analysis
Our IMR analysis of the dental sector:
– Dental practice level
Doctors, dental laboratories, anesthetic volume
– Dental consumables
Pricing analysis
– Dental equipment
High technology, basic equipment
4
Dental Market Analysis
Strong, consistent industry growth
– Widely-known industry drivers
Favorable demographics
Longer retention of natural teeth
Increasing number of people with dental insurance
Limited reimbursement risk (U.S.)
– Recession resistant, not recession proof
Expected to be defensive investment in turbulent market environments
5
Historical Dental Expenditure Growth
U.S. dental practice expenditures – CMS data
– Dental expenditures: +8.7% CAGR since 1960
– Dental expenditures: up at least 4.8% annually since 1960
– Dental expenditures have held up well in the six U.S. recessions
since 1965
U.S. Dental Industry
Annual Growth In Dental Expenditures
20%
18%
16%
14%
12%
10%
8%
6%
4%
2%
0%
1966
1968
1970
1972
1974
1976
1978
1980
1982
1984
1986
1988
1990
1992
1994
1996
1998
2000
2002
2004
2006
Source: CMS * Prior recessions highlighted in gray
6
Dental Stocks – Relative Performance
Is time different? Wall Street certainly thinks so!
Our dental stock composite (including PDCO, HSIC, XRAY, and
SIRO, weighted by market capitalization) has traded roughly in-
line with the poorly performing S&P 500 over the last year.
DENTAL INDUSTY-MKT WTD M-Wtd (DENT) 45
PRICE 30.84 DATE 07-10-2008
StockVal® 41
38 38
35 35
32 32
30 30
27 27
25 25
23 23
Q3/07 Q4/07 Q1/08 Q2/08 Q3/08 Q4/08 Q1/09
1.16
1.12
HI 1.13
1.08 LO 0.95
ME 1.02
1.04
CU 1.01
1.00
0.96
06-29-2007
0.92 07-10-2008
PRICE RELATIVE TO S&P 500 INDEX WITH OPERATING EPS (SPX)
7
Dental Stocks – Forward Estimate Valuation
From 2003 to 2007, our dental stock composite traded at 20x-
24x forward earnings.
Our dental stock composite is currently trading at a 34.5%
discount to its five-year mean.
DENTAL INDUSTY-MKT WTD M-Wtd (DENT) 48
PRICE 30.46 DATE 07-14-2008
43
StockVal®
39 39
36 36
32 32
29 29
26 26
24 24
22 22
20 20
18 18
16 16
2003 2004 2005 2006 2007 2008 2009
30
27 HI 29.4
LO 16.1
24 ME 24.6
CU 16.1
21
18
07-11-2003
15 07-14-2008
PRICE / YEAR-FORWARD EARNINGS
8
Dental Industry Concerns - Investors
Dental investor psychology is very negative.
– Economy is #1 concern for dental industry investors
Dental investors’ thesis:
– The economy is soft
– Disposable income is shrinking
– A larger percentage of dental procedures are discretionary
Financial Impact (according to dental investors):
– Slowing practice volumes will hurt consumable product sales
– Practice profits will shrink
– Dental equipment sales will suffer
9
Dental Industry Investor Concerns
Negative commentary from several dental industry
analysts has compounded investor concerns.
– Off Wall Street (PDCO)
– Robert W. Baird (PDCO / XRAY)
– Douglas Kass Barron’s Interview (DHR / PDCO / HSIC)
1Q08 reported results helped support negative thesis
10
FTN Midwest Dental Industry Thesis
We think Wall Street’s perception of reality is wrong!
– Valuation levels over compensate for changes in dental
industry performance.
Our IMR indicates:
– Concerns of slowing dental growth are overstated
– Our practice and lab surveys suggest procedure mix has
changed within the dental practice
– Higher year-over-year consumable prices help mitigate
slower unit growth
– Dental equipment remains a strong catalyst for growth in
2H08.
11
FTN Midwest Dental Practice Survey
We contact 125 dental practices each month to discuss wait
times for dentist and hygienist appointments.
2Q08 survey results:
– Net 3% of dental practices had longer hygienist wait times
– Net 2% of dental practices had shorter dentist wait times
FTN Midwest
2Q08 U.S Dental Office Wait Time Surveys
Dentist Wait Times Apr-08 May-08 Jun-08 2Q08
Above Average 2% 7% 9% 6%
Normal 93% 83% 78% 85%
Below Average 5% 10% 13% 9%
Net Above Average -2% -3% -4% -3%
Hygienist Wait Times Apr-08 May-08 Jun-08 2Q08
Above Average 8% 10% 10% 9%
Normal 87% 82% 80% 83%
Below Average 5% 8% 10% 7%
Net Above Average 3% 2% 1% 2%
Source: FTN Midwest surveys
12
FTN Midwest Dental Practice Survey
While our surveys suggest overall demand for dental services is
marginally slower, there were clear regional differences.
– Most favorable business conditions: Northeast and Central regions
– Least favorable business conditions: Midwest region
FTN Midwest
2Q08 U.S Dental Office Wait Time Survey
Dentist Wait Times Total Northeast Southeast Midwest Central West
Above Average 7% 13% 3% 7% 8% 3%
Normal 83% 81% 87% 75% 85% 88%
Below Average 10% 5% 11% 19% 7% 9%
Net Above Average -3% 8% -8% -12% 1% -7%
Hygienist Wait Times Total Northeast Southeast Midwest Central West
Above Average 10% 13% 7% 9% 12% 7%
Normal 82% 81% 87% 76% 81% 87%
Below Average 8% 5% 7% 15% 7% 7%
Net Above Average 2% 8% 0% -5% 5% 0%
Source: FTN Midwest surveys
13
FTN Midwest Dental Laboratory Survey
Our survey of 30 privately-held dental labs suggests the market
grew 2.8% year-over-year in 2Q08.
– Based on our surveys, we believe dental lab market growth is down
from 2007 (up 3-4%), but slightly better than1Q08
FTN Midwest
Dental Industry - Independent Market Research
Dental Lab Market Growth (Y/Y)
5%
4%
3%
2%
1%
0%
-1%
-2%
1Q03
2Q03
3Q03
4Q03
1Q04
2Q04
3Q04
4Q04
1Q05
2Q05
3Q05
4Q05
1Q06
2Q06
3Q06
4Q06
1Q07
2Q07
3Q07
4Q07
1Q08
2Q08
Source: FTN Midwest surveys
14
FTN Midwest Dental Laboratory Survey
We believe weaker unit volume growth in the fixed restorative
market (particularly for large cases) is the main reason overall
dental lab growth has slowed modestly in 1H08.
Higher gold prices are helping to expedite the market transition
from PFM restorations to all-ceramic restorations and causing a
shift to less expensive alloys within the PFM category.
FTN Midwest
Dental Lab Industry - Independent Market Research
Fixed Restorative Market Growth (Y/Y)
8%
6%
4%
2%
0%
-2%
-4%
1Q03
2Q03
3Q03
4Q03
1Q04
2Q04
3Q04
4Q04
1Q05
2Q05
3Q05
4Q05
1Q06
2Q06
3Q06
4Q06
1Q07
2Q07
3Q07
4Q07
1Q08
2Q08
Source: FTN Midwest surveys
15
Anesthetics – Consumable Growth Proxy?
Our contacts suggest dental anesthetic sales are
normally a good proxy for dental consumable growth.
We believe this is an abnormal year.
Because of supply concerns, many doctors
stockpiled anesthetic inventory during 1H07.
With difficult comparisons, dental anesthetic sales
growth has been negative in 2008.
We do not believe this is indicative of negative
procedure volume growth in the dental market.
16
Dental Consumable Growth Analysis
We estimate the North American dental consumable market
grew 5.8% in 2Q08. For FY08, we expect 5.5% growth.
We believe consumable growth has declined slightly during
recent quarters. Some of this slowness is related to sales days.
We believe investors have overreacted to the modest slowdown.
FTN Midw est
Dental Industry - Independent Market Research
Dental Consum able Market Grow th (Y/Y)
14%
12%
10%
8%
6%
4%
2%
0%
2Q08E
1Q04
2Q04
3Q04
4Q04
1Q05
2Q05
3Q05
4Q05
1Q06
2Q06
3Q06
4Q06
1Q07
2Q07
3Q07
4Q07
1Q08
Source: Company reports, FTN M idwest surveys
17
Dental Consumable Pricing Survey
We have conducted annual distributor list pricing surveys 2001
and monthly list pricing surveys since 2007.
Our research suggests list prices have increased 5% year-over-
year in 2Q08. Distributors are passing on higher price increases
from manufacturers.
Net of discounts, we believe dealers have raised prices 2-3% in
1H08, up from 1-2% increases in 2007.
FTN Midwest
Dental Industry - Independent Market Research
Dental Consumable List Pricing Survey - Yr/Yr Pricing Change
6%
5%
4%
3%
2%
1%
0%
2001 2002 2003 2004 2005 2006 2007 June-08
Source: FTN Midwest pricing surveys
18
FTN Midwest Dental Equipment Research
1Q08 dental equipment market growth was clearly slower.
– Comparison issues had as much, if not more, impact than the
economy
We expect low-double-digit 2Q08 dental equipment growth and
stronger results in 2H08 driven by new (potentially one-time) tax
incentives.
FTN Midwest
Dental Industry - Independent Market Research
North American Dental Equipment Market Growth (Y/Y)
18%
16%
14%
12%
10%
8%
6%
4%
2%
0%
2Q08E
1Q05
2Q05
3Q05
4Q05
1Q06
2Q06
3Q06
4Q06
1Q07
2Q07
3Q07
4Q07
1Q08
So urce: Co mpany repo rts, FTN M idwest estimates
19
Dental Equipment Analysis – High Tech
Dentists are investing in high-tech equipment to save
chair time and drive revenue.
We expect strong double-digit growth in most high-
tech dental equipment categories, including:
– Chairside Dental CAD/CAM
– Digital Radiography
– Cone Beam Computed Tomography (CBCT)
– Diode Lasers
20
Dental Equipment Analysis – CAD/CAM
The chairside dental CAD/CAM market has returned to positive
double-digit growth following two years of negative results.
2H08 chairside dental CAD/CAM growth should benefit from
milling unit upgrades, positive CEREC new user sales growth,
and incremental E4D Dentist system sales.
North American Dental Equipment Market
Yr/Yr Growth for Chairside Dental CAD/CAM System Sales
70%
60%
50%
40%
30%
20%
10%
0%
-10%
-20%
-30%
2Q08E
1Q05
2Q05
3Q05
4Q05
1Q06
2Q06
3Q06
4Q06
1Q07
2Q07
3Q07
4Q07
1Q08
Source: Company reports, FTN Midwest estimates
21
Dental Equipment Analysis - CBCT
We estimate the North American installed base of CBCT
systems was 1,100-1,200 at the end of FY07.
Entry of lower-priced systems should help accelerate market
adoption.
CBCT Analysis
North American Installed Base
2,000
1,800
1,600
1,400
1,200
1,000
800
600
400
200
0
2005 2006 2007 2008E
Source: FTN Midwest estimates
22
Economic Stimulus Plan – Tax Changes
U.S. Tax Code - Section 179
Section 179 U.S. Tax Code Maximum Deduction Limit
– Small business owners can Year
2002
Maximum Deduction Limit
$24,000
now deduct up to $250,000 in 2003
2004
$100,000
$102,000
capital investment in the first 2005
2006
$105,000
$108,000
year of purchase 2007
2008
$125,000
$250,000
Source: www.taxguru.org
Section 168 U.S. Tax Code U.S. Tax Code - Section 168
Bonus Depreciation Allowance
– Small business owners can Year First Year Bonus Depreciation Allowance
now take an additional 50% 2002
2003
30%
50%
in bonus depreciation after 2004
2005
50%
0%
the section 179 deduction on 2006
2007
0%
0%
purchases up to $800,000 2008
Source: FTN Midwest
50%
23
Economic Stimulus Plan – Tax Changes
New tax incentives offer the opportunity for considerable first
year savings on capital equipment investments.
First year savings opportunities are as follows:
– $250,000 capital investment - $35,000 in first-year savings
– $500,000 capital investment - $70,000 in first-year savings
– $750,000 capital investment - $105,000 in first-year savings
Dental Equipment Industry
Analysis of First Year Savings w/ New Tax Incentives
Equipment Purchase Price $150,000 $250,000 $500,000 $750,000
First Year Depreciation Allowance $150,000 $250,000 $400,000 $550,000
Section 179 Tax Deduction $150,000 $250,000 $250,000 $250,000
50% Bonus Depreciation (remaining balance) $0 $0 $125,000 $250,000
20% First Year Depreciation (remaining balance) $0 $0 $25,000 $50,000
First Year Tax Savings (35% Tax Rate) $52,500 $87,500 $140,000 $192,500
Cost Of Equipment Net of First Year Tax Savings $97,500 $162,500 $360,000 $557,500
Cost Of Equipment Before 2008 Tax Change $104,500 $197,500 $430,000 $662,500
First Year Savings With New Tax Incentives $7,000 $35,000 $70,000 $105,000
Source: FTN Midwest, GE Healthcare Financial Services
24
Economic Stimulus Plan – Tax Changes
We believe new tax incentives contributed to strong growth in
the North American dental equipment market in 2003 and 2004.
When bonus depreciation rolled back to 0% in 2005, dental
equipment growth slowed significantly.
We believe our 2008 equipment growth estimates could prove to
be conservative.
North American Dental Equipment Market
Dental Equipment Market growth Through Distribution
20% 60%
16% 50%
40%
12%
30%
8%
20%
4% 10%
0% 0%
2003A 2004A 2005A 2006A 2007A 2008E
Source: Company reports, FTN Midwest estimates Growth Bonus Depreciation Allowance
25
Dental Industry Growth Analysis
Despite a modest slowdown in 1H08, we expect the combined
dental consumable and equipment market to achieve 7% growth
in 2008, in-line with 2006 and 2007.
Our estimates assumes dental consumable and equipment
sales will increase 5.5% and 11%, respectively, in 2008.
FTN Midwest
Dental Industry - Independent Market Research
Dental Consumable And Equipment Sales Through Distribution
14%
12%
10%
8%
6%
4%
2%
0%
FY03 FY04 FY05 FY06 FY07 FY08E
Source: Company reports, FTN Midwest estimates
26
Stock Recommendations
FTN Midwest
Dental Coverage Universe
Company FTN Midwest 12-Month Upside
Ticker Rating PriceTarget (as of 7/10)
SIRO BUY $40 58%
NADX BUY $18 57%
BLTI BUY $4.75 56%
PDCO BUY $44 51%
XRAY BUY $53 39%
ALGN NEUTRAL NA NA
HSIC NEUTRAL NA NA
YDNT NEUTRAL NA NA
Source: Baseline, FTN Midwest estimates
27
Conclusion
Would you like to receive our research?
Contact me:
– Phone: 216-592-1911
– Email: esnyder@midwestresearch.com
28
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