IDEXX Laboratories, Inc.
Q3 2013 Earnings Call Transcript

Published: 22 Oct 2013

[Operator:]

Good morning, everyone, and welcome to the IDEXX Laboratories' Third Quarter 2013 Earnings Conference Call. As a reminder, today's conference is being recorded. Participating in the call this morning are Jon Ayers, Chief Executive Officer; Will Blanche, Interim Chief Financial Officer; and Ed Garber, Director, Investor Relations. IDEXX would like to preface the discussion today with a caution regarding forward-looking statements. Listeners are reminded that statements that members of IDEXX management may make on this call regarding IDEXX's future expectations, plans and prospects constitute forward-looking statements for purposes of the Private Securities Litigation Reform Act of 1995. Forward-looking statements can be identified by the use of words such as expects, may, anticipates, intends, would, will, plans, believes, estimates, should and similar words and expressions. Such statements include, but are not limited to, statements regarding management's expectations for financial results for future periods. Investors should be aware that any forward-looking statements are subject to various risks and uncertainties that could cause actual results to differ materially from those discussed here today. These risk factors are explained in detail in the company's filings with the Securities and Exchange Commission. Please refer to these filings for a more detailed discussion of forward-looking statements and the risks and uncertainties of such statements. All forward-looking statements are made as of today and except as required by law, the company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. Also during this call, we will be discussing certain financial measures not prepared in accordance with Generally Accepted Accounting Principles, or GAAP. A reconciliation of these non-GAAP financial measures to the most directly comparable GAAP measure is provided in our earnings release, which can be found on our website at www.idexx.com. Finally, we plan to end today's call by 9

[Jonathan W. Ayers:]

Okay. Thank you, Bonnie. With me is Will Blanche, our VP of Finance and Interim CFO; and also Ed Garber, our Director of Investor Relations. I'm going to turn the call over to Will now to take you through the numbers and I'll come back with some color commentary.

[Willard R. Blanche:]

Thank you, Jon. Good morning, and thank for joining us for today's call. As reported in our press release, our third quarter revenues were $338.3 million, yielding organic growth of 7.4% versus 2012 and fully diluted earnings per share of $0.86, an increase of 13% versus the prior year period. Third quarter organic revenue growth was driven by a strong underlying performance across the annuity portions of our Companion Animal Group business, including lab services, Rapid Assays and instrument consumables, partially offset by reductions in revenue from interim placements. Earnings per share growth exceeded revenue growth due to an 80-basis-point expansion in gross margins, continued reductions in shares outstanding and a reduction in the tax rate. Currency had a $0.02 negative impact on EPS versus Q3 last year, slightly favorable to our expectations. As a typical, we'll start with observations on the economy government and share what we see in the U.S. veterinary market based on data from approximately 700 of our Cornerstone customers. We are encouraged that during the quarter, patient visits were up 2.6% and practice revenues grew 6.1% versus the prior year. This is favorable to the numbers we reported in Q2 when we saw patient visits grow 0.7% and practice revenues grow 4.9%. Our guidance continues to reflect the cautious outlook on the impact, the economy may have on our growth rates given uncertainty, both domestically and abroad. In this regard, even with a relatively strong Q3 statistics, total year-to-date growth metrics were 1.1% per patient visits, and 4.7% for practice revenues versus the prior year. VetLab instruments and consumable revenue of $108 million grew 8% organically versus Q3 2012. Instrument revenue of $19.1 million declined 10% organically. Analyzers placed through volume commitment reagent rental or other deferred revenue programs in Q3 of this year, negatively impacted our year-over-year instrument revenue growth by roughly 2%. Both chemistry and hematology placement declined versus Q3 last year and were different than our expectations for the quarter due to shortfalls in the U.S. However, the quality of our placement continues to be high and we are very encouraged by the positive dynamics we are seeing with our diagnostic sales force, which Jon will elaborate on in more detail. Our worldwide chemistry placement declined 5% year-over-year due to the decrease in Catalyst placement in the U.S. As I just mentioned, the quality of our placement remains very strong with 57% of our North American Catalyst placements and 49% of our worldwide Catalyst placements going to customers new to IDEXX. For the full year 2013, we expect chemistry placements to decline in the low-single digits versus our prior guidance of low-single digit growth compared to the prior year. Our worldwide hematology placements declined 10% versus Q3 last year. Similar to Catalyst, we continue to a high percentage of ProCyte placements going to customers new to IDEXX, 45%, in fact, for Q3. For the full year 2013, we expect hematology placements to decline in the mid-single digits versus our prior guidance of flat year-over-year growth. Instrument Consumables revenues of $75.8 million grew organically 13% versus the prior year period, or 15% when further normalized for changes in distributor inventory levels, which negatively impacted revenue growth by almost 5% and certain timing items that favorably impacted revenue growth by over 2%. This strong normalized growth, which is slightly above Q2 performance, is a result of a number of factors including

[Jonathan W. Ayers:]

Okay, nice work to Will. It was nice to see the revenue growth continuing to pick up in Q3. And as Will mentioned, our 7.4% organic revenue growth was driven by 8.7% Companion Animal Group growth, and Companion Animal Group growth is over 80% of our total revenue. That 7.4%, third quarter organic revenue growth was a nice pick up from the prior 2 quarters of 3.3% and 5.5%, Q1 and Q2 for IDEXX as a whole, and the 8.7% was a nice pick up for our Companion Animal Group from 3.6% and 6.8% in Q1 and Q2 of 2013, respectively. So this growth is reflective of the underlying strength we see in the business and it gives us confidence to guide the 7% to 8% organic revenue growth in 2014. Now Q3 was a very important quarter as it was the first full quarter of our CAG diagnostic sales organization in North America. An organization that is responsible for approximately 50% of IDEXX's revenues globally. I'm very pleased with the progress on the team's accomplishments, especially given the magnitude of the change. To remind investors, in April, an initial 20% of our North American sales organization for diagnostics moved to new roles and territories associated with our new customer coverage model. We called this first group, Wave 1. The new coverage model entails a single sales professional serving the customer for all IDEXX diagnostic modalities, including the instruments, SNAP and reference labs. Allowing for smaller more manageably size territories for each rep and more frequent and consistent customer contact. The remaining 80% of the field and what we call Wave 2 assumed their new roles in the new model in Q3. So this past quarter, clearly, has the highest risk for the 80% of North America in Wave 2 with all the associated changes in roles, in territories, in reporting relationships inherent in such a major shift in field sales strategy. The Wave 1 regions that were in their second quarter of the new model during this past quarter 2013 moved down the learning curve and performed better than both their first quarter this year and Q3 last year. Performance as IDEXX looks at it includes achieving goals across all 3 diagnostic modalities

[Operator:]

[Operator Instructions] We'll go to the line of Erin Wilson with Bank of America.

[Erin E. Wilson:]

I guess, can you speak to the Catalyst placement declines in the U.S. and how much of that do you think is associated with the sales force changes and the dynamics, I guess, behind the placement trends? And how we should think about that going into 2014?

[Jonathan W. Ayers:]

Clearly, that was the sole reason for the decline in catalyst placements with U.S. and narrowing it more specifically, it was the Wave 2 regions, Canada actually did very well, we wanted well and internationally, we did well. But having said that, the quality of the placements was very strong as we've mentioned, in fact, if you just take the 3 quarters so far in 2013, we had almost a 20% increase in the number of competitive placements on an absolute basis. And competitive placements are new to IDEXX's, generating -- obviously, 100% new consumable growth. And I think, it's one of the underlying dynamics, along with strong loyalty of our customer base and the reason why we had the 15% adjusted for inventory factors and distributor inventory changes and other factors, 15% of consumable growth for our instrument line, globally.

[Erin E. Wilson:]

Okay. And just one on sales force transformation, how should we think about the incremental costs associated with the initiative is it running better than plan? And how should we think about that going into 2014? And you mentioned better loyalty or retention rates. Where did the retention rate stands now for the reference lab? And VetLab, where do you see that going over the next 12 months?

[Jonathan W. Ayers:]

Yes. So the -- obviously, the cost of the 16% larger sales forces embedded in our operating expense metrics, we did have some one-time cost associated with the transformation that occurred over the first 3 quarters that we will not be recurring. We're basically through that now, and we are well into the model but, of course, the vast majority of our costs associated with providing a good economic experience for our reps, which is what allows them to build tenure and experience in the field, and I think a market-leading technology company.

[Willard R. Blanche:]

Just quickly on that point, though, what I would add is that even though there was a one-time cost in the first part of the year, we have expanded our sales force. And so, we continue -- we've continued to expect that we will not have leverage on the operating...

[Jonathan W. Ayers:]

Right. In general. There's different mixes, so the one-time costs are very small in relation to, of course, the expansion in the sales force. With regard to loyalty, it's very important metric. We're under -- we're over 98% year-over-year loyalty in the instrument consumables lines. I believe we are over 95% in the Rapid Assay line, loyalty and just under 95% in the reference lab line. And all those have been improving metrics over the course of the last, actually over the past 24 months. And we expect them to continue to improve because there's -- once people, I think, are using a highly differentiated line, they appreciate the value of the integrated and they're providing value to their clients and that's one of the benefits of working with IDEXX as a diagnostic partner.

[Operator:]

Next, we'll go to the line of Ryan Daniels with William Blair.

[Ryan Daniels:]

I wanted to do a quick follow-up on the sales force transformation. Jon, good data point that the initial waves saw a 20% increase in instrument placements. I wonder if you could go a little bit deeper and talk about how effective they were in other areas, meaning, was the instrument placements more of a focus for that group, or is that a benefit that accrued to the company, while other areas also outperformed?

[Jonathan W. Ayers:]

Yes. It's a great question. In Wave 1 and Wave 2 they're really wasn't much of a learning curve. I mean, they did very well. For example, the sales force had several different performance metrics of which instrument placements is an important one, but by no means they are only one. We have reference lab and Rapid Assay and of course, those loyalty metrics are feed into all of at. And as a whole, the Wave 1 exceeded their performance and the Wave 2 essentially met the goals that we gave them. So obviously, there was some outperformance in some areas that made up for underperformance in other areas.

[Ryan Daniels:]

Okay. That's helpful color. And then, one thing you didn't mention, I was hoping we could get one, a little bit of an update there on the number of practices that's had? And then number two, I know a lot of things going on with the transformation and the rollout of VetConnect PLUS. I'm curious if you've been able to parse out what kind of favorable impact that specifically has had on loyalty, utilization, cross-selling, any metrics you can offer?

[Jonathan W. Ayers:]

Yes, in terms of the number of activations, we're a little over 10,000, 10,200 in North America. And of course, we launched it in Canada in July. And Canada had really a very successful launch. We have a very, very strong reference lab business in Canada and I think that team just looked at the U.S. experience and with them, the learning curve as they watch the U.S. experience and think at a much faster launch than we did in the U.S. And we have -- we anticipate towards the end of the year to launch that in one international market and then over the course of 2014, and other international markets, so it will be a global rollout. That the next challenge for us with VetConnect PLUS is utilization. One thing is to activate it and have it available and the next thing is to use it. While the large majority -- the majority of customers who are activated are using one of the things that our new customers centric sales model does, it helps with customers with the change management of moving from sample-centric, getting the result from 1 sample on a piece of paper to a patient-centric looking at the result in the context of the diagnostic history that you have in VetConnect PLUS. So the behavior changes, as we all know, in the veterinary world, it happens not as fast as you would like, but if once it happens, they never go back. And so we have a cadre of customers, of several thousand customers who are very active users of VetConnect PLUS, and that's growing. We measure that now every month. And one of the key roles of the sales organization. It is hard to parse out why is the loyalty growing as a result of VetConnect PLUS versus the sales model versus our more expanded set of test menu, much many of our proprietary test are unavailable other than through IDEXX or strong customer service model that we have. We think they're all contributing factors and the loyalty is really a key component of our strategy going forward.

[Operator:]

Next, we'll go to the line of Jon Block with Stifel, Nicolaus.

[Jonathan D. Block:]

Hey, Jon, I think the business model continues to sort of be two different worlds. I mean, the recurring is performing well, the equipment, you could argue poorly. If you can just help me, I'm wondering what changed in the last 2 months of the quarter. And by that, I mean, in the last call, I asked a pretty detailed questions. Just after 2 negative revisions to the top line if you felt guidance was where it needed to be. And now even after -- I think it was largely inline quarter, the implied 4Q number sort of moves from up, call it a 11% and maybe up 8 and change. So can you help us with what changed, I know you might reference the sales, what went on in the last maybe 8 weeks that's leading to the revision to 4Q?

[Jonathan W. Ayers:]

Okay. Thank you. That's a great question. It is -- there are 2 -- you can count -- put our diagnostics business, which I mentioned as you know, about 82%, 83% of the company into 2 categories. You have 92% of that business or 93% of that business is what we call recurring revenues or annuity. That's really all of the diagnostic recurring revenue and then the recurring revenue in the Practice Management and Digital Systems business associated with customer support, the broken -- and Pet Health Network Pro which is description-based targets, all recurring revenue, right? So, 93% of the Companion Animal business. If you look at the recurring revenue growth over the last 3 quarters, Jon, and I'm just giving you kind of approximate numbers from 7.5%, this is for CAG, 7.5% in the first quarter to 9.5% in the second quarter, to nearly 11% in the third quarter. Now the instrument placements are negative. Part of that is marketing programs and part of that is the volume of placements. But what's happening is we're placing in good accounts and that's helping contribute -- the volume may be down but the quality of those placements is good, and that's helping to continue. But I think we would all would say nearly 11% recurring revenue of growth, being 93% of the Companion Animal business. That's a good result. And so -- we're -- and that's the ultimate objective how we measure ourself. Because that revenues is, of course, the more profitable revenue. I'll turn it over to Will in terms of some of the dynamics that have changed from our prior thinking.

[Willard R. Blanche:]

Thanks, Jon. I think really important dynamics here and I think what's really driving some of that strong annuity growth is -- I go back to the quality of the instrument placements and so, while what is causing the decline in revenues in Q2 versus just a 8 weeks ago, is really the number of placements. The quality of those placements as really made up for it. I think we've mentioned on past calls that a competitive placement for us produces approximately 5x the value of a upgrade of one of our own customers. And the competitive placement do take a little bit more time and so we think that, that really has resulted in lower instrument revenues, but producing higher consumable revenues. And so it really is an instrument story. That lab instrument. And then I mentioned also digital placements. We did have some new reps. Our expectation was that they would come up the curve a little bit quicker than they have. But they've made really solid continuing improvements, which gives us more comfort with Q4, but not to the extent that we've had before. So those are really the 2 primary factors, Jon.

[Jonathan W. Ayers:]

And then the other area that I would mention, would be the BioResearch business, which is a strong double-digit grower. But isn't achieving a very high growth rate that we had in our assumption. So that came down a little bit. And then finally, as Will mentioned in his up front comments, there is an increase in deferred revenues associated with capital placements that would apply to both, the digital, as well as -- actually all capital placement, digital instruments and Cornerstone placements, which is associated with our marketing programs and is a result of how those marketing programs are accounted for.

[Jonathan D. Block:]

Okay. And maybe, this might be part b in the question and you can just give it a simple yes, or no. So your new 2013 guidance sort of implies low 6% organic, by our calculations. And you could argue that 2013 benefited from the new rate with NWI and also the direct change in Nordic countries. So can you just talk to, what gives you the confidence to sort of layout the 7% to 8% organic next year? Is that just a function of everything that you just talked, your 3-year equipment comps? Where you are placing equipment is going into competitive accounts and therefore, you should see a modest reacceleration in '14 versus '13?

[Jonathan W. Ayers:]

Yes. If that's a yes or no question, that's a yes. On the 7% to 8% organic growth for 2014, I think you've laid it out well. You did mention our Nordic go direct, that is really a very, very successful. We've had almost triple-digit growth in Nordics in Q3. And we've just been a very -- it's not a big number, so it's one of the contributing factors to the nearly 10% Europe CAG growth, 9.5% or so. But it's a -- it's been a very, very successful strategy for us. And now, we've essentially, in a little bit different way. We've done that in Brazil, acquired a very, very successful distributor for us in the Dairy and Livestock area, and we think they're a great platform. We don't really have a strong presence in Brazil in either LPD or the Companion Animal business. It's no one really does, it's an undeveloped market. It's a big animal health market. And so we are excited about that. We also actually acquired a distributor of ours in South Africa, which is going to give us a bit of a go direct benefit in South Africa, combined with a strong local team. So these are just elements of our global strategy of continuing to get that close to customers.

[Jonathan D. Block:]

Okay. And last one, if I could slip it in. Jon, looking back at your placement as to mature both chemistry and hematology, you started the year chemistry, you're thinking up low-single digits and hematology up low-teens . And now I think you mentioned both of those are sitting down mid single digits year-over-year. You went into the year, I believe, knowing that you're going to go ahead and sort of redo the sales force in certain ways. So can you just give us, from a high level, what are you seeing out there in terms of competitive -- competitiveness within placing instruments, and why was that -- why were you experiencing such a big delta. Where you'll end up from where you started the year?

[Jonathan W. Ayers:]

Thank you, John. So the other thing we didn't expect is going to 55% plus competitive placements. I mean, that's a pretty -- that, that's the highest number we've achieved for Q2 was 45%. I mean, Q2 were 55% and 56%. So in competitive placement as a percentage of total, and the absolute number of competitive placements as I mentioned, up nearly 20%. For the first 3 quarters versus prior year was strong. So that was unexpected benefit to our model going forward. That's where the market opportunities, 87% of our -- of consumable or chemistry revenue comes from catalyst customers in North America right now, and they and there's still a lot of -- there are lot of -- they're still customers out there that we're upgrading every day. Obviously, that's makes the 44% of our placement. But I think we're getting better and better and more and more differentiated in talking to customers that are not currently using our technology and explaining some of the benefits, the clearly superior benefits that helps them grow their practicing as they move to certainly our inhouse platform, and combined with our reference lab platform giving them total diagnostic solution with the wraparound of VetConnect PLUS. We are getting better at that and there's a big opportunity out there, continuing opportunity, to grow the business. The other thing that's happening is we've got high loyalty. So once we get them, we keep them. And we're growing utilization of accounts, inspiring them with the importance of diagnostics as part of the practice of business model. And just -- finally, we're adding the tests. What we're adding in the reference lab is good, and we are very, very excited about the new test. It's probably I would call fructosamine the single most important individual test that we've launched in our chemistry platform in the last decade, because it is such an important disease, the diabetes. And just so if you understand, that this is equivalent to HB A1C in the human market. In other words, this measured glucose levels in the dog or cat over the past 2 to 3 weeks average. It's very, very hard to measure glucose, particularly in a cat. I know because I have a diabetic cat now. It's very hard to do so called glucose curves and so fructosamine is valued test and we're going to -- we're the only major platform that's got them on in-house now.

[Willard R. Blanche:]

Just to add a little bit of color on the, what you're mentioning before about the instrument placement numbers. And certainly, they are very strong, just to go back to that, very strong competitive numbers. And so it really points to the VetTest upgrades. That's one thing that we really do believe that in the new diagnostic consultant model, that they are going to become partners with these practices, and that could result in us being able to accelerate the continued transition of our VetConnect prior VetTest customers up to catalyst customers. But even those prior VetTest customers, very loyal group of customers.

[Jonathan W. Ayers:]

We like that customers as much as we like Catalyst customers. They give us good business, they have our in-house platform and it's being what they have showing in that VetTest to pick up the IVLS we've been selling since 2006. They can connect old model into VetConnect PLUS and that's a good customer for us. We'd like to inspire them, that's great. But in the meantime, it's good to have them as a customer in VetTest.

[Operator:]

[Operator Instructions] We'll go to the line of David Clair with Piper Jaffray.

[David C. Clair:]

Some. I'm sure we don't want to get too deep into the details for your 2014 guidance, but I was hoping just to maybe get some details on your assumptions for instruments. And then, what are you assuming for the underlying economy?

[Jonathan W. Ayers:]

Okay, thank you. Again, we're not really in, as you mentioned, in a position to get too detailed, but we do have -- I think it's fair to say, we're going to be, of course, having passed the comps of 2013 with the kinds of things that we've done that brought our instrument revenues down but of course, have done a nice job in growing the recuring revenue portion of the consumables. And so, we also expect that we're going to be really, in 2014, getting to a state of maturity with the new diagnostic model. We just went through the first quarter and the fourth quarter we're primed, we're ready to go. We've got people in position, fourth quarter is an important quarter. But by the time we get to 2014, we're going to have these reps who really know the customers. An average rep is 150, 160 customers really start getting to know them. And again, these are all relatively new territories. And we're going to really see the benefits of not only the expanded feet on the street but the productivity per rep that we think will be a good driver to 2014. With regard to the economy, I don't think we're expecting any great things that are -- I don't expect it to be much different than it was in 2013.

[David C. Clair:]

Okay. And then, it's been 3 quarters now since we saw the distribution change. I was just hoping, and I think you've mentioned in the past that MWI continued to see traction there. Any update that you can give us?

[Jonathan W. Ayers:]

It's really the same story that has been all year. All of our distributors are performing well. The relative performance that the different distributors really haven't changed over the course of this year in comparison to prior years. I think we have very, very engaged distributor group, and it really -- there really isn't any change. Distributors are good partners for us. We also recognize that our sales organization are the primary ones in terms of placing instruments and growing diagnostic revenues. We've gotten really great response from distributors for SNAP Pro. They really get it, they see it as basically an iPhone for SNAP. And it's going to be fun to introduce that to the market. And our distributors have been strong partners with us and figuring out exactly how to do that.

[Operator:]

Our next question comes from the line of Ross Taylor with CL King.

[Ross Taylor:]

A lot of my questions have been answered, but you gave out the statistic at about 87% of your consumable volume in the U.S. is coming from your Catalyst owner. I guess, intuitively, that you would imply that the VetTest that are still out there in North America are generating pretty low volumes of consumables. And my question is do these clinics you have enough revenue or enough in-house consumable volume to justify upgrading to Catalyst? And is it that you've challenged that maybe you've slowed some of your placements compared to expectations? And second part of this question would be, these clinics do upgrade to Catalyst. I mean, how much do their consumable volume have to increase to really justify the switch?

[Jonathan W. Ayers:]

Well, the fact is they're consumable volume increased about 25%. So that's one of the things that happens. And what we're doing is we're really inspiring to use their in-house lab in a more client-centric way with Real-Time Care. And with this new coverage model, we're going to be back there after we place the instrument. We'll help them in learning how to utilize the instrument. And that's one of the nice things about this new model. You make a good point that we've got a relatively -- that the install base for chemistry is mostly a Catalyst now for our install base. But I have to tell you there is a tremendous opportunity out there. There is still opportunity for upgrades, although probably not as great as it was in a year ago but there's still an opportunity out there. But the big opportunity, which is no smaller today than it was in the past is the competitive switch, which is obviously, buybacks value creator for IDEXX shareholders. And of course, a good value creator for the customers too. And in addition, we do -- there's so much focus in the U.S. but we're doing really well outside the U.S. I mean, I'm very impressed with our teams around the world, whether it is in places like the U.K., or Germany, or Canada just did a great job with the transformation of the IDEXX diagnostics as a sales organization. Australia is doing very well. They were actually the original account coverage model. Japan is doing well. Other emerging markets. So these are all contributing factors to our, as I've mentioned, nearly 11% annuity growth that we saw in Q3 for the Companion Animal Group.

[Ross Taylor:]

Okay, that's helpful. And just one final question. I may have missed this in your prepared remarks, Jon, but I just wonder if you could explain what the difference is for the Pet Health Network Pro, 3D versus your base product that's been out there?

[Jonathan W. Ayers:]

Right. So the base product is as you call base line in our pro description basis is a client -- is a software-as-service base client communication tool. So this is what allows you to send out an electronic minders as the Petly page which we've got tremendous response from both practices and pet owners. Where all were health informations online. It allows you to book appointments, integrated with Cornerstone. You can send out newsletters, it allows you to manage your reviews online. With Google and Yelp, this is turning to be a more and more important issue. So all a lot of different functionality in Pet Health Network Pro. And then Pet Health Network 3D is a -- you just have to see it and those of you who come to the North America veterinarian conference -- will is an imagining -- It gives you very clear illustrations, interactive images of different pet conditions. So you look inside the pet. And it helps the veterinarian primarily in the office explain what's going on with the pet. And then e-mail a link to the pet owner and other family members so they can see what is the condition that has been discovered, and what will be the treatment plan. So that's the difference between the two.

[Willard R. Blanche:]

There will be work together. They're both -- they are separate subscriptions.

[Operator:]

Our next question comes from the line of Nicholas Jansen with Raymond James & Associates.

[Nicholas Jansen:]

A follow-up on Dave's question from earlier on in your relationships with your existing distributors, but how are those evolved this year with the new diagnostic model, are we expecting, kind of any changes for '14 and '15, and maybe you can remind us when your Patterson and Shine contracts are approval to?

[Jonathan W. Ayers:]

We don't expect any changes. All of our contracts with the exception of the one with MWI, which was a 2-year associated with the change in the moving to nonexclusive in the lower margin. They are all annual, they've always been annual. We expect the annual renewal, we've good relationships with them, we continue to work closely with distributors to help them grow the IDEXX line. The IDEXX line is, it obviously, when you're looking at kind of consumable growth of 15% that they're distributing is an important line. That's a strategic line. So we really expect no change in the model in 2014 or even 2015 from where we are today.

[Nicholas Jansen:]

Okay. And then maybe just an update on your German lab venture kind of how where we are today in terms of country penetrated and how much benefit have you had from this rollout and kind of which we anticipate the next 2 years, maybe you better penetrate more countries there?

[Jonathan W. Ayers:]

Yes. So that, we were talking about our Liepzig IDEXX direct lab, which is co-located with DHL in Liepzig Germany. It gives an improved -- it gives really that late pickup early-morning turnaround time that we're used to in the U.S. but is not of standard model in the vast majority of Europe. In key countries that's really helping us grow the lab services in Europe, would of course be Germany, but also Italy. And it's been one of the contributing factors to the success in the Nordic go direct. In fact, we had direct reps there for labs prior to 2013, but now we have the full coverage account model with in-house and lab and we've been very, very successful. But we're going to continue to roll that out to other countries that are supported by the DHL network. If you reflect back strategically, I think it was in 2008 when we opened the Memphis lab and is now the largest lab in North America, because of that very, very successful direct model using FedEx. And we really see long term strategically that Leipzig will -- could be that too in strong partnership with our core lab as really advanced testing capability that works closely with Leipzig in Ludwigsburg. But Leipzig is the fast turnaround overnight results the next morning model. And that's really bringing a completely different service level. So we're not only winning new customers, we are aggressively growing existing customers that are benefiting from that service model.

[Willard R. Blanche:]

And in fact, John, for I think some of the experience, better service levels, we are actually seeing the customers that are of the Leipzig lab growing 30% faster, 30% versus 10% with our other customers. And so we're really seeing just very strong growth and customers are really liking the service that is being provided by the Leipzig lab.

[Operator:]

Next, we'll go to the line of Jeff Frelick with Canaccord.

[Jeffrey Frelick:]

Jon, a quick question here on how you characterize the new customers to IDEXX. Are these more competitive instrument conversions or are you converting the send outs, moving those more to in-house? And how would you characterize the volumes of these new customers to IDEXX?

[Jonathan W. Ayers:]

Yes. So they are -- I think they are primarily -- those who have another -- don't have IDEXX for their in-house but have an in-house analyzers and they switch to IDEXX. There's, another category of brand new practices. It's a small category but there's always new practices being formed. With regard to, I think over 90%, I would say 90% to 95% of customers already have chemistry analyzer. So it's not like exactly that we are converting people who weren't using in-house lab, they are using in-house lab, although we may be converting people from using their in-house lab to some degree to realizing the benefit of Real-Time Care. So the basic question is, why ask the customer to wait when you can run it now? Why ask the customer to come back? Why ask the customer to come a few days early to run the pre when you can run it the morning of the surgery? In this environment, people don't want to wait. They both want to drive to the practice more often than they had to, conveniences is the order of the day. And I think practices are understanding the convenience model. And our in-house instruments are uniquely designed to provide results within the practice -- within the appointment because of the fast turnaround time for both chemistry and hematology and certainly combined with VetConnect PLUS, we can have those results anytime, anywhere in the practice. So it really is uniquely designed for Real-Time Care scenario. So many times when we upgrade customer to IDEXX technology, they all are running more of their work in-house. I think we've seen a very, very slow -- we talked about this with you in the past. We are seeing a very, very slow shift of core chemistry and hematology from the reference lab to in-houses. Very slow, but it’s happening. These things can happen in slow motion, in the veterinary world. Our reference lab is doing well because we're back filling with new specialized tests and of course, growing that number of customers. So as we introduced a whole new category of cardiac disease, or allergy, or molecular diagnostics, these are -- these things are helping contribute to growth in the reference lab and these are technologies that are not available in the Real-Time Care modality.

[Operator:]

And we have time for one final question. That will come from the line of Erin Wilson with Bank of America.

[Erin E. Wilson:]

Most of my questions are answered but on capital deployment, I know you didn't give any CapEx guidance, but do you anticipate any major capital expenditures out of the ordinary in 2014? For instance, is their data with your Brazil business or in South Africa that you mentioned?

[Willard R. Blanche:]

No. I don't think so. I mean, we mentioned the CapEx guidance for the current year of around $90 million, but for next year, no. There's nothing that we're expecting.

[Jonathan W. Ayers:]

It's just normal, capital expansion associated with volumes. But that's normal run rate stuff. One of the things that we did complete in 2013 was our expansion here of our facility in May. So we're not going to have to do that again. But there's always growing. When you grow consumable by 15%, you need to continue to invest in production. But that's all in the normal ordinary course of business. We haven't given specific items but I don't see anything unusual in 2014.

[Erin E. Wilson:]

And where does the cornerstone adoption stand? Is that growing meaningfully?

[Jonathan W. Ayers:]

We're really pleased with the success with Cornerstone. We've seen -- we had some rep transition issues in our Cornerstone business, kind of like we had in our Digital business that hurts a little bit in the first and second quarter, but we'll talk about taking a little bit longer to get the new digital reps up to speed. We haven't had that issue on Cornerstone. We had a very strong Cornerstone placement. And of course, I think that goes -- it works very, very well with Pethelp network to products. We just remind investors that client communications is really being recognized more and more, a key capability of the practice, and we are the only partner who can provide a client communications tool that is fully integrated with the practice management. And that turns out to be really important because if you want to share exam results, you've got to be integrated. If you want the pet owner to be able to book an appointment with -- through their Petly page, it's going to integrated with the practice management software. And so, I think we're really pleased with the success we had in a moment and we had in both those related product lines, we've got that established in Q3. Thank you for your questionnaire.

[Operator:]

With that, speakers, I'd like to turn it back over to you for any closing comments.

[Jonathan W. Ayers:]

Okay. I want to thank everybody for being on the call. And I certainly want to -- a huge congratulations to our North American sales and marketing organization. They've really stepped up and it was a lot of change and we're through that period now and we're settled down and we're learning new model and it's been a tremendous accomplishment. But we've also had what I would say is extraordinary performance with our regions around the world. So I just want to -- I do want to thank everybody and again, we're going to be looking forward to updating you on the full year performance in January and giving more details on the 2014 outlook. And that concludes the call.

[Operator:]

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