Brian P. McKeon - IDEXX Laboratories, Inc. Jonathan W. Ayers - IDEXX Laboratories, Inc..

Ryan S. Daniels - William Blair & Co. LLC Derik de Bruin - Bank of America Merrill Lynch Jonathan David Block - Stifel, Nicolaus & Co., Inc. Erin Wright - Credit Suisse David Westenberg - C.L. King & Associates, Inc. Mark Anthony Massaro - Canaccord Genuity, Inc..

Jon Ayers, Chief Executive Officer; Brian McKeon, Chief Financial Officer; and Kerry Bennett, Vice President, Investor Relations. IDEXX would like to preface the discussion today with a caution regarding forward-looking statements.

Listeners are reminded that our discussion during the call will include forward-looking statements that are subject to risks and uncertainties that could cause actual results to differ materially from those discussed today.

Additional information regarding these risks and uncertainties is available under the forward-looking statements notice in our press release issued this morning as well as our periodic filings with the Securities and Exchange Commission, which can be obtained from the SEC or by visiting the Investor Relations section of our website, idexx.com.

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 measures is provided in our earnings release, which may also be found by visiting the Investor Relations section of our website.

In reviewing our third quarter 2018 results, please note all references to growth, organic growth, constant currency growth and comparable constant currency growth refer to growth compared to the equivalent period in 2017, unless otherwise noted.

To allow broad participation in the Q&A, we ask that each participant limit his or her questions to one with one follow-up as necessary. We appreciate you may have additional questions, so please feel free to get back into the queue, and if time permits we'll take your additional questions. I would now like to turn the call over to Brian McKeon..

Thanks and good morning, everyone. I appreciate your joining us for our third quarter earnings call. IDEXX delivered strong revenue and profit gains in Q3, keeping us on track towards our full-year goals. Today, I'll take you through our third quarter results and our updated outlook for the full-year 2018.

I'll also provide an overview of our preliminary guidance for 2019. Jon will follow with his comments. In terms of highlights for the third quarter, revenues of $545 million grew 11% on a reported basis, net of a 1% foreign exchange growth headwind.

Organic revenue gains of 12% continued at a strong pace, driven by 13% organic growth in CAG Diagnostic recurring revenues supported by 13.5% growth in the U.S.

Overall organic revenue growth was slightly below our midpoint projections for the quarter, reflecting moderated growth in international reference lab revenues impacted in part by hot weather conditions in Europe.

Operating profit of $117 million increased 17% as reported and 20% on a constant currency basis, reflecting continued high organic revenue growth and a 140 basis point constant currency improvement in operating margins.

EPS was $1.05 per share, an increase of 39% on a comparable constant currency basis, reflecting strong operating profit gains and benefits from U.S. Tax Reform.

Reported EPS results also benefited by approximately $0.08 per share from share-based compensation tax benefits that were approximately $0.05 above our expectations for the quarter, reflecting earlier timing of exercises.

In terms of our 2018 outlook, we're updating our full-year revenue guidance to $2.205 billion to $2.215 billion based on an outlook for 11.5% to 12% organic revenue gains and updated estimates for FX impacts.

In terms of our outlook, we expect to deliver a full-year organic growth trend – growth in CAG Diagnostic recurring revenues, in line with our year-to-date trend of 13.2%, supported by continued strong growth trends in the U.S. and an expanding international consumable revenues.

We're pulling down the high end of our most recent projected overall organic growth range by 0.5% to reflect expectations for near-term pressures on LPD revenues and tough Q4 comparisons for instrument placements as well as updated expectations for international lab growth, which will constrain the additional CAG Diagnostic recurring revenue growth acceleration we targeted for the second of this year.

We're refining our 2018 EPS guidance to $4.16 to $4.21, or 33% to 35% growth on a comparable constant currently basis, a $0.04 per share increase at midpoint reflecting $0.01 per share increase for operational performance, supported by our expectations for operating margin gains at the high end of our previous guidance range and $0.03 of upside related to higher projections for share-based compensation tax benefits.

In terms of our 2019 preliminary outlook, we're projecting revenue of $2.385 billion to $2.425 billion, supported by organic revenue growth of 9.5% to 11%, and EPS of $4.61 to $4.75 per share resulting in comparable constant currency EPS growth of 15% to 18%, aligned with our long-term financial goals.

Our organic revenue growth outlook reflects expectations for a sustained strong CAG Diagnostic recurring organic revenue growth of 11.5% to 12.5%, in line with 2018 trends adjusted for the approximately 1% in non-recurring growth rate benefit from the new revenue accounting standard change.

Our EPS outlook incorporates $0.03 per share in projected headwinds from FX and expectations for $0.10 to $0.13 per share in lower tax benefits from share-based compensation activity in 2019, which we'll review in more detail in my comments. Let's begin with a review of our Q3 performance by segment and region.

Strong Q3 results were driven by ongoing momentum in our Companion Animal Group. Global CAG revenues were $478 million, up 13% organically, reflecting continued strong gains in recurring CAG Diagnostic revenues.

Global CAG Diagnostic recurring revenues increased 13% organically, including a $5 million or approximately 1% in growth rate benefit from the new revenue accounting standard changes, primarily related to our modified retrospective restatement. Veterinary software services and diagnostic imaging systems revenues also increased 13% organically.

These results were supported by solid growth in recurring software services associated with our practice management platforms and continued strength in our diagnostic imaging business, reflected in a 29% increase in diagnostic imaging system unit placements.

Out Water business revenues grew 9% organically in the third quarter to $33 million, supported by solid growth in the U.S. and double-digit gains in international regions, including very strong growth in Brazil. Livestock, Poultry and Dairy revenue in Q3 was $29 million, up 7% organically.

Quarterly growth was aided by favorable comparisons to low prior-year revenues related to health herd (sic) [herd health] screening of export cattle into China. Gains in poultry revenues were offset by end market impacts related to African swine fever outbreaks in China, which is our largest market for swine diagnostic testing.

We also continue to see impacts from lower milk prices in key markets, which is constraining dairy testing and bovine pregnancy test sales. Given these factors, we expect flat to modest declines in LPD organic revenues for the full-year 2018 with mid to high single-digit revenue declines projected for the fourth quarter. By region, U.S.

revenues were $341 million in the quarter, up 13% organically, driven by a 13.5% increase in CAG Diagnostic recurring revenues. U.S. recurring revenue gains were supported by mid-teen revenue growth in U.S. reference labs and consumables and continued solid growth in rapid assay sales. U.S.

CAG recurring diagnostic growth was primarily volume-driven with overall net price gains continuing to trend in the 2% to 3% range. Our U.S. recurring CAG Diagnostic customer retention metrics also sustained at very high levels, supported by steadily increasing levels of customers under long-term contracts. IDEXX's U.S.

recurring CAG growth performance continues to significantly outpace solid overall U.S. veterinary practice market growth, reflected in our data set from about 5,000 clinics. In Q3, patient visits were up 1% and clinic revenues increased 5% compared to the prior-year period. International revenues in Q3 were $205 million, up 10% organically.

International results were supported by 12% organic gains in CAG Diagnostic recurring revenues. These results continue to be driven by consumable revenue gains of over 20%, reflecting expansion of our Catalyst instrument base and increased utilization and adoption of new tests, including SDMA.

We're benefiting from our focus on high economic value placements in international regions, which drove a 36% increase in placements at new or competitive accounts in Q3.

International lab revenue growth moderated to the low to mid-single-digit range in Q3, including slower growth in key European markets, which were impacted by weather conditions which constrained sample volumes sent to our labs in the quarter.

Our executional emphasis on driving high competitive Catalyst placement growth in international markets has also shifted some sales executional focus from driving international lab business, which we expect will contribute to mid to high single-digit international lab revenue growth in the near term, which is factored into our refined growth outlook.

In terms of segment performance, our Q3 results benefited from ongoing global expansion of our Catalyst and SediVue instrument base.

Globally, we placed 3,026 premium analyzers, up 10%, supported by 20% growth in North America, which benefited from a favorable comparison to relatively moderated placement gains in last year's third quarter as we implemented our 2017 U.S. field sales expansion.

Our focus on high economic placements drove a 26% global increase in global Catalyst placements at new and competitive accounts and strong double-digit EVI gains in both North America and international.

As expected, our focus on high economic placements shifted some emphasis from chemistry upgrades and hematology instrument placements in the quarter, which constrained overall international premium placement growth to 4% compared to very strong prior-year levels.

Globally, we placed 1,611 Catalysts in total in Q3, a 16% year-on-year increase, and 821 premium hematology instruments globally, down 3% year on year. We achieved 922 Catalyst placements at new or competitive accounts in Q3, or 57% of total. In North America, we placed 319 Catalyst placements at new or competitive accounts, or 75% of total.

This represented a 10% year-on-year increase, with 15% gains in the U.S. As noted, international Catalyst placements at new or competitive accounts increased 36% year on year in Q3. We also drove strong continued momentum with SediVue, reflected in 594 global placements or 18% growth, driven by 30% year-on-year growth in North America.

In addition to these strong premium instrument results, we placed 1,495 SNAP Pros in Q3 globally, expanding our SNAP Pro installed base to almost 23,000.

Overall CAG Diagnostic instrument revenues in Q3 were $32 million, up 10% organically, including $7 million in revenues attributed to the accounting standard change, which now more closely aligns instrument revenue recognition with the timing of the instrument placement.

This amount is primarily related to the launch of the IDEXX 360 customer program in the U.S. Our expanding instrument base and benefits from new test innovation continues to drive strong recurring CAG Diagnostic revenue gains. Instrument consumable revenues of $153 million grew 19% organically in Q3.

Results reflected continued strong gains in international markets and accelerated double-digit growth in the U.S. High volume-driven consumable gains were supported by expansion of SediVue Pay per Run and SDMA slide revenues, which contributed approximately 4% combined to year-on-year consumable revenue gains in the quarter.

Reference laboratory and consulting services with revenues of $184 million grew 11% organically in the third quarter. U.S. lab momentum remains very strong, reflected in mid-teen volume-driven organic reference lab revenue gains. As noted, overall lab revenue growth was moderated by low to mid-single-digit gains in international markets.

Rapid assay revenues at $54 million grew 6% organically in Q3, reflecting solid gains across U.S. and international markets. Rapid assay gains were primarily volume-driven, reflecting continued growth of 4Dx Plus, specialty, and first-generation products.

Turning to the P&L, operating profit in Q3 was $117 million, up 17% as reported or 20% on a constant currency basis, with results driven by continued high profit growth in our CAG business. Operating margins were 21.5%, up 110 basis points as reported and 140 basis points on a constant currency basis.

Gross profit of $306 million in Q3 was up 12% as reported or 13% on a constant currency basis.

Gross margins of 56% increased approximately 40 basis points on a constant currency basis compared to prior-year levels, net of approximately 25 basis points of negative impact related to cost reclassifications in our lab business from OpEx to cost of revenue.

Gross margin expansion was driven by lower product costs in LPD and VetLab consumables, solid price gains and benefits from high consumable growth.

Overall gross margin gains were moderated by investments in lab service capacity and employee benefits, including the increase in our 401(k) match levels as part of the Tax Reform reinvestment, as well as unfavorable impacts related to instrument program mix under the new revenue accounting standard.

Foreign exchange hedge gains which benefit gross profit were limited in Q3. Operating expenses in the quarter increased 8% on a reported and 9% on a constant currency basis, resulting in approximately 100 basis points of positive operating expense leverage.

Constant currency operating expense increases were driven by higher global sales and marketing investment and higher G&A costs in the quarter, offset in part by the lab cost reclass.

We incurred a $2.6 million impairment of work in progress assets related to the SNAP Fecal product in Q3, which was recorded in G&A, which was offset by favorable changes in other accruals.

As noted, EPS in Q3 was $1.05 per share, including $7 million or approximately 8% per share in tax benefits related to share-based compensation activity, which as noted was about $0.05 per share above our expectations. On a comparable constant currency basis, EPS increased 39%, including benefits from U.S. Tax Reform.

Our effective tax rate was 14.5% in Q3, including approximately 6% of tax rate benefit from share-based compensation impacts. Foreign exchange net of hedge impacts in Q3 2017 and 2018 decreased operating profit by $3 million and EPS by $0.03 per share. Year-to-date free cash flow was $182 million.

We continue to expect free cash flow of about 70% to 75% of net income for 2018.

This reflects a consistent outlook for full-year capital spending of $140 million, including approximately $50 million of combined incremental capital spending related to our Westbrook, Maine headquarter expansion and our German core lab relocation, as well as additional projected cash deployment related to strong program instrument placements.

Our strong cash flow generation supported the allocation of $73 million in capital towards the repurchase of 300,000 shares in the quarter. Year-to-date we've repurchased 1.3 million shares at an average price of $207 per share, while maintaining a strong balance sheet.

We ended Q3 with $1.022 billion in debt, $147 million in cash, and $435 million in capacity under our revolving credit facility. Our leverage ratios as a multiple of adjusted EBITDA were 1.74 times gross and 1.49 times net of cash.

We continue to maintain a 2018 full-year outlook for a reduction in average shares outstanding from stock repurchases of approximately 1%, which assumes that we maintain net leverage at 1.5 times EBITDA. We now are projecting annual net interest expense of $34 million to $35 million reflecting additional benefits from capital structure optimization.

In terms of our updated P&L outlook for 2018, as noted, we're refining our full-year reported revenue guidance to $2.205 billion to $2.215 billion, reflecting an organic growth outlook of 11.5% to 12%.

This reflects a full-year outlook for CAG Diagnostic organic revenue growth in line with our strong year-to-date trends, which include about 1% of growth benefit related to the implementation of the New Revenue Standard.

For the full year, we now expect a 0.5% reported revenue growth benefit from foreign exchange, slightly less favorable than earlier estimates, as the recent strengthening of the dollar offsets first half gains. Our updated overall organic growth outlook lowers the high end of our prior guidance range of 11.5% to 12.5% by 0.5%.

As noted, we're planning for near-term pressure on our LPD business related to end market factors, impact of swine testing in China, and dairy testing globally.

We've also factored in expectations for moderated growth in our international lab business, which will constrain the additional acceleration in CAG Diagnostic recurring revenue growth that we had targeted for the second half of 2018. For the fourth quarter, we expect reported revenue growth in the 7% and 9% range, net of an estimated 2% FX headwind.

We expect to sustain high recurring CAG Diagnostic revenue gains in Q4, supported by continued strong U.S. trends. We are projecting a moderation in overall organic growth to the 9% to 11% range related to tough prior year comparisons in global instrument placements and expectations for lower revenues in our LPD business.

In terms of EPS, we're raising our 2018 full-year guidance by $0.04 per share at midpoint to $4.16 to $4.21 and narrowing our projected EPS range to reflect an outlook for 33% to 35% comparable constant currency EPS growth.

This outlook incorporates expectations for 110 to 130 basis points in full-year constant currency operating margin improvement at the higher end of our prior guidance range, which supports approximately $0.01 per share in operational improvement at midpoint.

Our EPS guidance assumes $0.01 in full-year benefit related to FX changes, net of hedge impacts, in line with earlier estimates. Our updated EPS guidance assumes a 2018 effective tax rate of 18% to 18.5%, a 100 to 150 basis point improvement compared to earlier guidance, netting approximately $0.03 of EPS upside.

This tax rate includes an updated estimate of approximately $21 million or about 5% in full-year projected tax rate benefit from exercise of share-based compensation. At the midpoint of our guidance estimates, this equates to about $0.23 per share in full-year benefit.

This level of benefit is much higher than we have previously expected for this year and reflects increased realized benefits related to the rapid appreciation of IDEXX's stock price, including earlier timing of exercises.

As we'll discuss in our preliminary guidance for 2019, we anticipate that about 10% to 13% (sic) [$0.10 to $0.13] (00:20:34) per share of the EPS tax benefit we've realized this year will not carry over into 2019. As we look ahead to 2019, we're targeting continued strong revenue and profit growth consistent with our stated long-term goals.

Our preliminary revenue outlook is $2.385 billion to $2.425 billion, reflecting expectations for 9.5% to 11% organic revenue gains, supported by 11.5% to 12.5% growth in CAG Diagnostic recurring revenues.

Note that our 2019 results will now be fully comparable under the New Revenue Standard, which we estimate will provide about 1% of growth rate benefit to CAG Diagnostic recurring revenues in 2018 that will not recur in 2019.

Our guidance reflects expectations for overall reported revenue growth of 8% to 9.5%, net of an estimated 1.5% foreign exchange headwind related to the recent strengthening of the U.S. dollar.

Our preliminary 2019 EPS guidance of $4.61 to $4.75 per share incorporates expectations for operating margin improvement of 50 to 100 basis points on a constant currency basis, also consistent with our long-term goals.

At the rates assumed in our press release, we estimate FX will decrease revenue growth by about 1.5% and EPS by $0.03 per share, net of established hedge positions which at current rates would result in approximately $10 million of net pre-tax gains. Our projected 2019 effective tax rate is 20% to 21%.

This outlook assumes $9 million to $11 million in share-based compensation tax benefits, assuming our current share price and no change in U.S. tax policy. As noted, this is $0.10 to $0.13 per share below the tax benefits we're projecting in 2018.

We're projecting a 1% reduction in shares outstanding related to share repurchases at consistent leverage levels and relatively higher floating interest rate costs which contribute to current projections for net interest expense next year of about $38 million.

Adjusting for changes in currency, share-based accounting benefits and discrete tax effects, this 2019 EPS outlook equates to a projected 15% to 18% comparable constant currency growth rate, on track with our long-term goals.

Our preliminary 2019 guidance factors in our most recent understanding of tariff-related effects which we currently estimate would have a relatively limited financial impact on IDEXX. This is an area we'll continue to monitor and update in our business plans as we move forward.

We look forward to providing an update and more detailed review of our 2019 guidance in our year-end conference call. That concludes our financial review. I'll now turn the discussion over to Jon for his comments..

All right. Thank you, Brian, very comprehensive as always. Overall IDEXX's organic growth remains strong, driven by our Companion Animal Diagnostic recurring revenue, which increased 13.1% globally in Q3, including 13.5% growth in the U.S. This diagnostic recurring revenue globally constitutes about 75% of IDEXX's overall revenue.

The quality of our instrument placements was strong in the quarter. Globally, we achieved 26% growth in Catalyst placements to new and competitive accounts; important because these placements are the primary driver of our organic instrument revenue – consumable growth, which was 19.1% globally in Q3.

New and competitive Catalysts at 922 units grew 10% in North America and 36% internationally, which is supporting that very strong instrument consumable growth. This reflects our continued focus on the economic value index of different types of instrument placements.

EVI is an index of the value to IDEXX of the instrument placement in a particular market that comes from both the instruments and consumables over the many future years. SediVue placements also continued to track in line with our robust plans, at 594 placements, up 18% year-over-year.

As part of the multiyear customer agreements under our U.S.-based IDEXX 360 program, SediVue instrument placements also help expand all IDEXX diagnostic revenues.

This builds customer retention and allows our field organization to focus on advancing the standard of care through the appropriate use of diagnostics, including adoption of preventative care blood work. We continue to drive mid-teens growth in our U.S.

reference lab business, which accounts for almost $7 out of every $10 of our global reference lab revenues.

Q3 continues to benefit from fecal testing, up 25% year-over-year in the quarter with the growth in this category of lab testing driven entirely by panels that include our proprietary fecal antigen technology and now in 2018 constitute a majority of our fecal revenues.

Fecal testing, along with preventative care blood work, is driving strong same-customer sales growth of reference lab services. European lab growth slowed in Q3, due in part to the heat wave impacting parts of Continental Europe over the summer, which reduced patient sample volumes sent to the reference labs.

Also with the introduction of our EVI incentive program to our international commercial organizations this year, while we've seen exceptional instrument placement quality growth year-to-year, as noted, the prioritized focus on instrument placements in our international markets has led to some unforeseen impacts on growth rate of our international reference lab testing services.

We are already refining our international execution approach to benefit all of our modalities, including importantly the introduction of our IDEXX 360 program internationally, which has had a highly successful launch in the U.S. at the beginning of this year. Rapid assay test kits with over 80% of revenue coming from the U.S.

had an excellent quarter, particularly in line with the launch of a competitive product with SNAP 4Dx earlier in the year. Peer-reviewed research with head-to-head product performance comparisons published in the quarter demonstrates SNAP 4Dx Plus' significant superior ability to detect tick-borne disease compared to the competitive product.

Customers tell us unsurprisingly that test accuracy is their highest priority. Accuracy in detecting the test is, after all, the whole point of the test. Our commercial team is doing a great job getting the results of these peer-reviewed research to our customers as they make their purchasing decisions. Overall customer retention trends in the U.S.

continue at world-class levels of 97% to 98%.

And as customers adopt, use and value our unique innovations, including but not limited to SDMA, including Catalyst SDMA, SediVue, fecal antigen, VetConnect PLUS, software integrations and the differentiated IDEXX 360 program, and we know our customers value the IDEXX diagnostic professionals who visit their practices.

As a result, we see continued solid net price realization in the U.S. diagnostics market in the 2% to 3% range. Customer retention outside the U.S. is even higher at 98% to as high as 99.9%, supporting similar solid net price gains. We're on track with our field-based expansions. The U.S.

2018 expansion is complete and we have transitioned to the larger number of territories in Q4, thus shrinking the number of customers covered by a veterinary diagnostic consultant. As a result of our 13% expansion in field-based resources, there's always some adjustments when territories are redrawn.

Although with the experience of two prior expansions under our belt, we're getting even better at the transition process in the U.S. Regardless, we have a strong instrument placement compare from Q4 of 2017.

And so, while we expect a strong Q4 2018 instrument placement quarter in the U.S., the year-over-year growth of Q4 placements will reflect both the transitional impacts of the U.S. expansion and a tough compare. Internationally, our plan is to have the expansion completed in early 2019 when we're on track to have over 400 field-based professionals.

These global field expansions, the ongoing momentum in the U.S.

and the continued high potential for growth we see in international markets gives us confidence in our preliminary outlook of 11.5% to 12.5% organic growth of our Companion Animal Group Diagnostic recurring revenue in 2019, consistent with 2018 trends adjusting for the 1% New Revenue Standard growth benefit in 2018.

I want to recognize the exceptional Companion Animal Group performance in Q3 of our international teams in Germany, Spain, Netherlands, the four Nordic countries, Russia, Brazil, Mexico, China, Japan and Southeast Asia.

These commercial teams show us how international as a whole can advance the adoption of IDEXX innovations to help pets and vet practices all over the world. A couple of other notes.

Our digital imaging business had an exceptional Q3, building on our Lower the Dose campaign, leveraging our unique digital radiography offering that reduces radiation exposure by veterinary technicians.

Q3 and year-to-date performance of digital radiography placements growth rate is in the high-20s percent with Q4 order rate trends also looking very strong as we begin to lap some tougher year-over-year compares.

Our Water business also continues to achieve impressive organic revenue growth of 9% in Q3 due to commercial and innovation investments worldwide. We continue to make steady progress in building our Legiolert franchise in the Water business, which contributed 1% to revenue growth in the quarter.

Our Legiolert product has a long runway of growth opportunity over the next few decades. Water's year-to-date organic growth of 10%, operating margins of 46%, limited investment capital and world-class levels of customer retention above 90% make the Water business and the team truly exceptional.

Overall, our business trends are strong and our revenue performance is on track with our longer-term goals which is reflected in our 2019 guidance. We are proud to have built a business model with enduring and predictable growth and profit dynamics.

Perhaps, this is why we are part of a small minority of companies that provides earning guidance in the Q3 call for the next calendar year. Note that this has been our practice for every year for the last 15.

And further, we have an unbroken track record of subsequently delivering within or above that next year's earning guidance range on an adjusted constant currency basis, quite a 15-year record; perhaps unique and a testament to our business model and our team focused on innovation and the customer in delivering financial returns.

And I'm deeply proud of them. So, we'll open it up to questions now..

Thank you. And our first question will come from the line of Ryan Daniels with William Blair. Your line is open..

Yeah. Good morning, and thanks for taking the question.

My first one for you just on the international lab growth, can you speak to a little bit more detail there in regards to your comfort that there's no competitive changes? I know you mentioned the weather, you mentioned some sales force focus on instrument placements which makes sense given the recurring nature of that and the high margin there.

But any other color you can have on maybe how much was weather related, how much was the sales force refocus, and then what the retention rates were in regards to clients OUS?.

Yes, thank you for the question, Ryan. The retention rates remain exceptional in the international reference lab business as a whole. So, we really don't say that was a factor.

I think it's probably a roughly equal parts weather which impacted Continental Europe where we have a lot of reference lab business, of course, out of our German core lab network; and part, the executional focus, obviously, the 36% year-over-year growth in new and competitive Catalyst placements which drove over 20% growth in the instrument consumable revenue, very profitable revenue for us, was a good aspect of our international performance.

And as we move forward and we're introducing the IDEXX 360 program which just really wraps in all of the modalities, this is something that the international organization has just started to adopt.

And I think we'll build a competencies and merit area as we complete the commercial expansion through the end of the year and should bode well for 2019 CAG Diagnostic recurring revenue in the international market which we've targeted generally at the 12% to 16% range..

And, Ryan, just to Jon's point on some of the impact being weather, we've seen an improvement early in Q4 relative to some of the trends we saw in the summer. So, that's clearly was part of the dynamic.

But I think the executional shift that they create, it's prudent in the near term for us to have that mid- to high-single-digit growth rate overall in Q4..

Okay. That makes sense. Thank you.

And then as my follow-up, maybe a bit too nuance, Brian, but looks like sales and marketing at about $95 million was actually down on a sequential basis, which doesn't appear to be seasonal looking back over the last few years and somewhat surprising given the sales force investments you're making, so anything nuance there to explain why that actually took a downtick in the third quarter..

Sometimes we can have just the charges or reversal in charges that impact those areas. We're on track for the additions that we had talked about in the U.S. expansion. And I think that's reflected in the year-on-year growth, which was high single digit. And I think that's more indicative of how we're managing it there.

There can always be some noise quarter to quarter..

Also, I don't know if it's on an absolute basis, obviously, the dollar strengthened in the third quarter..

That's a good point, Jon. There were some changes in the reported numbers related to FX..

Okay, thanks. I'll hop back in the queue..

Great, thank you..

Thank you. Our next question comes from the line of Derik de Bruin with Bank of America Merrill Lynch. Your line is open..

Hello, good morning..

Good morning..

Good morning..

Hey, just one broad question. I'm getting this across my overall coverage universe. There's a lot of concern about slowing in the consumer markets and macro concerns going on. Obviously, your 2019 guide doesn't seem to imply that you're worried about the market.

But I guess could you just talk about the broader overall landscape on what you're seeing? And I guess what are you looking for in terms of economic indicators and stuff that get you worried? And I have a follow-up..

We have a very strong business in the U.S.; obviously, a very large part of the global IDEXX revenues. We're very effective in creating our own growth. I think in general, our diagnostic recurring revenue has grown 800 basis points higher than nominal personal consumption expenditures.

And that's been expanding over the last many years, as we have gotten people to really appreciate the importance of blood work and care. One thing we talked about, Derik, as you recall in the Investor Day, was preventative care. It's really interesting. There's just a deep well there.

We have about – a little over 2,000 customers who have adopted our Preventative Care Challenge program. These customers are growing their IDEXX diagnostics revenue at 16% on average. That's over 2,000 customers, and yet that's less than 10% of our total customers. So that's driving very strong same-store sales growth.

And that's a result of the commercial investments we're making. And so it's these kinds of efforts which I think have allowed us to actually expand the differential between our recurring growth and nominal PCE in the U.S.

And we're seeing – obviously the economy certainly didn't affect our 36% year-over-year growth in instrument placements across international markets. And you noted the diverse set of countries that I mentioned. And so we're pretty diversified there. So we're not going to say we're completely immune to the economy, but we're very confident.

If you look back along the 15 years, we may have had a recession somewhere in the past, and yet we've delivered on our earnings guidance that we give in the following year, which I've mentioned is a relatively small number of companies actually provides 2019 guidance. And we've delivered every year, including in 2007, 2008, and 2009.

Each year we gave guidance the October of the year before that year, and we've delivered within or above on constant currency adjusted earnings basis on those, which really shows on that guidance which really shows the enduring predictability of the business model..

Great, and then just one follow-up. If I heard you correctly, you said that your U.S. sales force expansion was done and that I'm just curious on the international push and how much more you're going to spend incrementally on the international sales force..

So our international is on its way. It's going to build over Q3, Q4, and early into 2019, and so the international group are hard at work on that. And so I saw that the numbers are all factored into our guidance obviously.

When you're growing at double-digit rates, even with the issues in the international reference lab growth in Q3 that were weather-related, we grew 12% internationally. So it really gives us confidence.

The opportunity we see internationally, the 36% growth in new/competitive Catalyst placements as a result of the adoption of EVI, this really gives us confidence to continue to build on what are really some world-class country teams around the world..

And just one follow-up just because I've gotten hit by a couple of clients as I'm sitting here talking. It's just like this. I guess people feel like that the 2019 guide is a little bit conservative at this point in time. Obviously, you've got the stock-based compensation headwinds that are factored in.

I guess what are some of the puts and takes on the guide for next year? And just walk through it, the estimates are below the consensus estimate. And so I'm just – I think people are looking for a little bit more color..

So I think, Derik, the key place to start is our CAG Diagnostic recurring revenue growth outlook, the 11.5% to 12.5%. That's basically right on our 2018 trend.

So if you take the current guide that we have that our full-year number is going to be about in line with our year-to-date growth rate of – it's 13.2% and adjust for the benefit growth rate – benefit we're getting from the revenue accounting standard change, which is a little bit above 1%, it's effectively approximately 12%.

That's the midpoint for next year. So I think our guide on CAG Dx recurring revenues is right in line with trend. We did point out that I think our overall organic growth will be up against some tougher compares on just higher levels of instrument placements. We're looking to grow instruments and get benefit from the investments we're making.

But we've had an exceptional year and we're going to have a tougher compare there. And I think LPD, we're appropriately cautious just given some of the end market dynamics. It's a business that's 90% international and more heavily weighted to emerging markets. And I think we're being appropriate in having a more cautious view on growth in that area.

But I think the underlying core driver of our economics in our business, the CAG recurring is very much in line with trend and that's supportive of the strong operational – financial and operational outlook that we're sharing..

And then with regard to the – in addition to those comments from Brian, with regard to the earnings, I do want to reinforce the point that Brian made in his prepared remarks that we're going to see a step-down in the tax rate benefit – predict a step-down in tax rate benefit from stock option compensation of 10% to 13%.

And that may not have been – since we've talked about the benefits in 2018 all along, I've been very, very transparent about that. In 2019, we're going to have fewer options exercised. We have fewer options expiry, we had some pull forward into this year. So that's really a non – that's an accounting change.

But when we look at comparable constant currency earnings growth, we get to the 15% to 18%, which is factored in our long-term guide..

Great, thank you..

Thank you. Our next question will come from the line of Jonathan Block with Stifel. Your line is open..

Great, thanks, guys, and good morning..

Good morning..

Brian, I've been jumping between calls, I apologize if you've addressed this.

But just want to address – or I think how we should view margin expansion in 2019? And I guess, where I'm going with this is, is it more shared between gross margin and OpEx leverage relative to what we've seen in 2018? And then a sort of a follow-up to that, I'm guessing when we think about the quarterly cadence, is the OpEx leverage maybe a little bit bigger in 2H relative to 1H as you lap some of the more recent investments?.

Yeah, I think that's a good way to look at it, Jon.

I think we're expecting to have gross margin improvement driven by the things that we've been focused on, which is sustaining solid price gains and improving productivity in our operations, including global labs and those in growing areas like our consumable revenues, which have benefits for us and we expect to build on that.

I think that the OpEx leverage, we do have another wave of investment here around the U.S. expansion as well as the international expansions that we've highlighted that we think are very high-return investments.

These have been very successful for us as we've accelerated our growth in recent years and just reinforces the opportunity that we see to continue to invest in growing the market. And I think to your point that will create relatively more of a challenge earlier in the year in terms of compares than in later in the year.

We'll share more color on that, obviously, as we finalize our plans and provide the full-year numbers for you on the Q4 call, but I think that's an appropriate way to look at it..

Got it. And then just....

And then just – we're always appreciative of your questions, Jon, and recognize the situation you're in. We are very committed to our long-term goals of 50 to 100 basis point operating margin expansion, which we're over-delivering – expect to over-deliver on in 2018 and expect to continue to deliver on in 2019 and over the long term..

Got it. Thanks, Jon. And maybe one or two more if I may.

Jon, anything on the competitive update? I mean, are you seeing any changes in the field with the recent acquisition of Abaxis and the deal actually closing, positive or negative for you guys? And any alteration as to pricing the market or changes in the way Zoetis is coming to market overseas? And then, I've got one quick follow-up to that. Thanks..

I'll tell you we have – the answer is really no. The one comment you may have missed in the prepared comments is that we published peer-reviewed research, which shows a substantial superiority in our SNAP 4Dx, obviously, an important franchise in detecting tick-borne disease and heartworm.

And as I commented, accuracy is the number one criterion for customers in purchasing decisions, after all, that's the whole point of running the test, it's to detect disease. And we're doing a great job with our close to 500 field-based professionals getting the word out on the differential.

And we had a very strong rapid assay quarter in Q3, mostly U.S. business, over 80% in the face of a competitive product launch against the important 4Dx franchise. The year-over-year growth of 26% globally in new and competitive Catalyst placements walk and ride along. And so really we haven't skipped a beat here in Q3 from a competitive point of view.

Our customer retention rates remain very strong and consistent, maybe even slightly improved in the U.S. and very, very high – even higher internationally. Our price realization continues in 2% to 3% range in the U.S. and good – similar type of price realization internationally. We believe that our opportunity here is to create our own growth.

And when we can get over 2,000 practices see 16% same-store sales growth in their diagnostics when they start adopting preventative care, I know you did some studies on, that's really less than 10% of our total customers who work with us on preventative care.

We get 16% overall diagnostic recurring revenue growth in these customers year-over-year in the last year when they adopted these programs. This is the opportunity that we have. And, of course, we're unique in being able to do that because our diagnostic line finds more underlying disease and finds it earlier.

And so with all the additions of the SDMA, our differentiated hematology, fecal antigen, the quality 4Dx, it actually increases the medical justification and evidence-based medicine to run preventative care, blood work on pets of all ages. And that story is resonating and has a very, very long-term runway and is a unique opportunity for IDEXX to do.

So, really no changes in the competitive environment to answer your question..

Got it. I'll actually take my last one offline. Thanks for your time, guys..

Thank you. Our next question will come from the line of Erin Wright with Credit Suisse. Your line is open..

Great, thanks. You discussed the international lab business some, but I'm just curious what you're seeing in terms of the competitive landscape, growth was pretty strong in the U.S. in particular. Any major changes there or what are you kind of hearing in the field? Thanks..

Thank you. No real changes in the U.S., a very strong performance continuing to edge every quarter a little bit higher, customer retention in the U.S.

I think this is the continued adoption of unique value – the innovations that I had experienced, so the reference lab services, SDMA, molecular diagnostics, fecal antigen, VetConnect PLUS and, of course, 500 diagnostic subject matter experts that are calling on practices across the U.S. every day.

And so customers value our professionals coming in and helping them on how to advance their standards. And so it's a very strong – the U.S. reference lab business is a very, very strong component of our overall diagnostic offering in the U.S. And as I mentioned in the prepared remarks, U.S.

generates almost $7 out of every $10 of global reference lab business, so an important element of the equation..

Yeah, just to reinforce, it was some of the metrics we shared, Erin, we had 15% growth in Catalyst placements at new or competitive accounts. We had accelerated growth in consumable revenues, continued mid-teen growth in reference labs, solid continued volume growth in rapid assay, net price gains in the 2% to 3% range, the 13.5% overall. The U.S.

is really continuing to execute well, record levels of retention, record levels of customers under contract that steadily increases. So, I think we're feeling great about the U.S. business and....

Yeah, I don't want to say it's not competitive environment, it's always been a competitive environment. I just don't see any change in that competitive – we're competing with innovation and growth. And that's resonating with our customers.

In addition, we have more and more of our customers who have elected to partner with IDEXX with our IDEXX 360 program, which is a very friendly way to add capital and combine with a multiyear commitment to IDEXX and so....

And so we had 30% growth in SediVue year-over-year in North America..

Yeah. So, SediVue – many times when we placed SediVue with an IDEXX 360, we get the entire diagnostic revenue of that customer under a five, six-year agreement..

Okay. Great, thanks.

And then one last one, just drilling into rapid assay in particular here, any changes or surprises relative to your thinking on the competitive positioning on 4Dx Plus? And how is the success in bundling in SNAP Pro? Are you seeing that improve overall kind of retention rates for what may be an inherently more vulnerable segment? Thanks..

Yeah. Thank you. Thank you very much for that question. We publish peer-reviewed research on the superior accuracy of 4Dx and, of course, that's very important to customers. I mentioned that in my prepared remarks. But I do want to add a little bit more color on SNAP Pro.

We had a very strong quarter for SNAP Pro placements, up 10% year-over-year in the U.S. And customers who've adopted SNAP Pro into their workflow are more loyal and grow their rapid assay test utilization faster than those that haven't. That's why we had a very solid, I think, rapid assay quarter in Q3.

As of Q3, Erin, customers who are active and connected with SNAP Pro, meaning they're integrated with IDEXX and SmartService and everything and they're using SNAP Pro, they constitute 57% of our SNAP 4Dx revenues in the U.S. This is a growing percentage over time as we continue to place instruments.

And thus, we're well on our way to turning the SNAP 4Dx Plus market into an instrument-based razor-razorblade business model.

And, Erin, I think you know because SNAP Pro leverages IDEXX's unique integration of the instrument through IDEXX VetLab Station with the overall software of the practice, the practice information management system, you get big staff productivity and economic benefits from charge capture from this integration.

Still totally unique to IDEXX after 10 years, and SNAP Pro builds upon our overall VetLab integration ecosystem, increasing the loyalty for not just rapid assay, but the overall diagnostic offerings. That strategy just continues to march along.

And we're – I think that's – there're a lot of reasons why we had a solid rapid assay quarter in Q3 in the face of competitive launch accuracy and also the evolution of the customer base with SNAP Pro..

Great, thank you..

Thank you. Our next question will come from the line of David Westenberg with C.L. King. Your line is open..

Hey. Thank you for taking my question. So, the other one kind of on the European reference lab dynamic, you mentioned that you're talking to customers about getting them onto a little bit more of an EVI focus and that would imply that you will have revenue kind of catch up as these customers migrate to, say, maybe more instrument.

So, just for the sake of our models, can you kind of just talk about how this might play out over the next few quarters and just to reconcile what reference lab is going to do versus what instruments they're going do in Europe?.

So, I think we feel very good with the instrument placement momentum in Europe. Certainly, Q3 was a strong quarter with a 36% year-over-year growth in new and competitive Catalyst placements outside the U.S., which of course was the EVI focus.

And what we're going to be doing going into 2019 is starting to roll out the IDEXX 360 program internationally which really wraps in growing the reference lab business as well as the in-house business in a multiyear partnership along with instrument placements.

We think this will help us continue with strong instrument placements and, of course, consumable growth and also help us build reference lab growth. So....

And, Dave, I think it's important to understand, EVI as a metric is very helpful for our sales teams in thinking about when they're placing or trying to place instruments, what type of placements drive the most value.

It's not intended to be something that shifts attention from growing the customer relationship and that is reflected in how we approach compensation where we have – the majority of our compensation is oriented towards overall recurring growth. I think what – so I don't think the EVI metric should drive an issue in terms of reference lab growth.

I think what we're acknowledging is that we've got a huge opportunity for instrument placements internationally in Catalyst and that's been our focus. And we've had somewhat of a shift from the sales execution towards that and that is something that we are anticipating we can – we move back in balance over time.

And so don't see the near-term kind of dynamics as being something to be concerned about for the long term. But I think, just to be clear, EVI is I think not something that should negatively impact our growth in reference labs..

Even in the near term. Okay, thank you very much. And then maybe just to go a little bit further on the European area, would there be any different kind of customer dynamics with the fact that there is fairly deconsolidation in Northern Europe? And maybe offer what some of the challenges are there and maybe what some of the opportunities there are..

So with the corporatization or consolidation that's taking place in Northern Europe, we are in excellent shape with most of the consolidators except for one who happens to have a competitive reference lab. And so we think we're in very good shape, and many of these are very interested in our opportunity to help them grow same-store sales.

Because what's happening is while, on one hand, they can grow through acquisitions, they'd also like to grow four-wall revenue, which has very nice drop-through, particularly with diagnostics.

And they're appreciative of the fact that we can bring resources to bear at the current level through our commercial organizations and, of course, unique innovation to help drive growth. We also have a fabulous software offering. We have the leading cloud-based software in Europe, Animana.

But the Smart Flow acquisition, which we're really excited about, we closed in early Q3, is a global platform. And we have a strong base of customers in Europe, U.S. and Australia. It's actually – and it adds value to really all customers with different practice information management systems because it's workflow software.

And then when we integrate it with the PIMS, which we're already well on our way of doing with Neo, Cornerstone, and Animana, it brings even more unique value to these customers. And so this is something I think will help us both in Europe and the U.S.

with these corporate customers that are looking for a partner who can bring a sophisticated enterprise software approach. And there really isn't anyone else with the competencies and product ecosystem, software ecosystem, including cloud-based software ecosystem that can partner with our customers.

And so I think this will benefit us on both the software side as well as the diagnostics side..

And I realize we're low on time, so you can just answer this yes or no.

Does the 2019 guidance factor any sort of maybe late product launch?.

It factors all of our plans in place. And so generally speaking, if you look at IDEXX growth in any particular year, most product launches have not really been a major component. It's really the core growth, the adoption of products we've launched over the last five to seven years.

And so we're not making any product launch announcements at this point in time, but it factors in all of our plans for 2019..

Thanks so much..

Thank you. And we will go to the line of Mark Massaro with Canaccord Genuity. Your line is open..

Hey guys. Thanks..

Yes, we're still here..

You had some hot weather in Europe in Q3. As we think about Q4 and into the first half of 2019, can you just speak to reference lab growth? Brian, I think you might have made comments about potentially mid to high single-digit growth in the near term from international reference labs..

That's right..

Historically, you've been in the 13% to 14% growth rate in reference labs.

So I guess excluding weather, is there any reason to think that that level of growth might decelerate?.

You're talking about – that would be global growth that you were referring to, the 13% to 14%?.

Correct. Correct..

Yeah..

I think there is nothing to say that we can't get back to those levels. We're certainly growing better than that in the U.S. and have been, and I think we've got great....

And U.S. is $7 out of every $10 of global reference lab volume, so an important contributor to the whole..

So to your question, this is more of a near-term impact. We haven't gotten that granular heading into 2019, Mark, but I think there is an aspect of this that we've shifted some executional focus. So this will kind of....

It's interesting. The weather thing, there are really two facts going on. One is obviously lower foot traffic, but the other thing is customers get concerned about sending samples to the lab when it's really hot out. They're worried they're going to get spoiled along the way.

And so those are the two factors which can – and it was very clear that the six weeks or so in summer during that heat wave, that impacted our revenue. It wasn't the only slowdown, but it was....

And, Mark, I'd just reinforce, our 2019 guidance basically for overall CAG recurring growth is right in line with our year-to-date trends, adjusted for foreign exchange..

Right. Adjusted for the 1%, 11.5% to 12.5%. So we're really seeing the fundamentals of the business continue in 2019 that we see year-to-date and through the balance of 2018 for total CAG Diagnostic recurring revenues which, as you know, is 75% of the total IDEXX revenues..

Terrific. And then, practice revenue of 5% was strong in the quarter. Historically, you've been somewhere in the 4% to 7% range.

In terms of end user demand, do you see any changes there?.

It's remained very solid, as you pointed out, in a similar range of growth. And of course, that's the overall growth in the vet clinics and we believe....

Our customers are growing faster..

Our customers grow faster, diagnostics grow faster, and we influence that growth. So I think we feel good about the market trends, particularly in the U.S..

Great, and just one last quick one, I think you indicated at your Analyst Day that you intend to launch a new slide onto Catalyst sometime in 2019.

Is that still your intention? And can you provide any color around what that might look like?.

I think just to review the history in 2018, we launched the Catalyst SDMA slide, and that has had great success. It's adopted by almost 50% of our global Catalyst base. We launched the SDMA T4 combo kit in the June-July timeframe. We launched the CRP slide, which has been a great success outside the U.S. The U.S.

doesn't fully appreciate the value of CRP. They will in time. And we will continue to expand the menu. And we also expanded the menu on ProCyte with retic hemoglobin, another parameter. So, this is really a steady diet of menu expansion. We're not talking about any specific further expansions at this time. But they're in the pipeline, of course..

Expect ongoing innovation..

Okay. Thanks guys..

Thank you..

Thank you. And, Mr. Ayers, I'd like to turn it back over to you for any closing comments..

I just want to thank everybody and appreciate your attention during a very busy day. And also, I want to thank all the employees. We just continue to have a great performance in terms of bringing advanced care to veterinarians, pet owners and pets alike, it's what drives us, it's what our purpose is.

And we look forward to finishing the year and again we are really proud to be able to provide 2019 guidance, which is something that not too many companies do. And we're even more proud that we've done this for the last 15 years.

And then, we've – in terms of the earnings guidance and we've delivered against that earnings guidance within or above the range on an adjusted constant currency basis in the subsequent year that we provided guidance for.

So, it really is a testament to the team and the predictability and enduring growth characteristics of this business, driven by a very high degree of recurring revenue. So, with that, we'll close the call. Thank you very much..

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