Team 77

Editor’s note: This is a developing story about California’s Camp Fire. We will update it as more information becomes available.

On November 8, an almost unimaginable firestorm broke out in Northern California. Fed by dry vegetation, and fanned by northeasterly winds pouring off the Sierra Nevada Mountains, it rapidly descended on the community of Paradise, home to nearly 30,000 people.

Scott McLean, deputy chief of Cal Fire, was among the rescuers, driving through town and frantically trying to get people out. “I just left the hospital, heading up into the mess again,” he told WIRED Friday evening. “And out of the smoke comes this little old lady with a little puppy in a wheelchair just scooting down the road. These people didn’t have ways to get out. So I picked her up, put her in my truck, and took her back to the hospital.”

Virtually nothing is left of Paradise—the current tally is 10,300 structures destroyed. That makes the Camp Fire by far the most destructive wildfire in California history. It is also by far the state’s deadliest, with a death toll of 56 and at least 100 still missing.

Something’s gone wrong in California. Fires aren’t supposed to destroy entire cities—at least, not since San Francisco burned in 1906. Fire codes, better fireproof materials, fire engines, and water-spewing aircraft have made it easier to put out flames. Yet in the last year, California has seen seven of its 20 most destructive wildfires ever. The Camp Fire comes just a year after the second most destructive blaze, the Tubbs Fire, struck the city of Santa Rosa to the south of Paradise, leveling 5,500 structures and killing 22.

“How could this happen?” says Stephen Pyne, a fire researcher at Arizona State University. “How did this come back? I mean, this is what we saw in the 19th century.”

You can find much of the “how” in the collision of two long-term trends, climate change and explosive population growth. The fires aren’t going away, but likely neither are the people. So how do you keep 40 million people from suffering the same fate as the residents of Paradise? And how do you protect $2.6 trillion in property?

“At some point, you don’t know what to say,” Pyne adds. “It’s like mass shootings, we’re just sort of numbed by it and we don’t seem to be able to respond.”

But respond California must.

How We Got Here

Climate change didn’t invent California wildfires, but the data says it’s making them worse. This is largely a problem of timing. Normally by this time of the year, the state has at least a little bit of rain on the books, which helps rehydrate parched vegetation. With climate change, though, California is seeing a severe drying trend in the autumn, as you can see in the graphic below.

The fast, hot winds that blow in from the east this time of year are further desiccating the vegetation, providing ample fuel for what became the Camp Fire, as well as the Woolsey Fire in Southern California. These conflagrations are spewing embers that travel miles ahead, creating a multitude of new fires, which firefighters simply can’t handle.

The fires are encroaching on sprawling development in California—or, more accurately, the development is encroaching on the fires. “I think of fire as a driverless car,” says Pyne. “It’s just barrelling down the road integrating everything around it. It’s a reaction, it takes its character from its context.”

Controlling fire, then, means changing its character—by tweaking our cities. Fire codes emerged as a reaction to the need to control urban development. Plain wooden shingle roofs are a no-no, for instance. Properties are subject to rules about creating defensible spaces—for example, clearing out dead plants and grass. In 2005, a new California law bumped the required clearance from 30 to 100 feet.

But fire codes only go so far. “One of the weaknesses is that it’s really difficult to actually enforce that,” says Crystal Kolden, a fire scientist at the University of Idaho. “The enforcement falls on the local municipal agencies and fire departments, and oftentimes they simply don’t have the resources.”

Then there are California’s struggles with fire suppression. Not letting trees burn can actually lead to bigger blazes. “There’s really good scientific evidence that the tree density in the Sierra Nevada right now is much higher than it was in the pre-European settlement period,” says Kolden. “That’s very much a product of 100 years of fire suppression.”

Forests packed with more fuel than is natural also creates more conflagrations, across millions of acres of wildlands where crews should be reducing fuel loads. “You don’t have a lot of resources to do that because so much of your funding now goes to simply fighting fires year round,” says Kolden. “That fuel simply remains there, and will remain there until it finally burns.”

One solution is prescribed burning, a measure that California hasn’t quite embraced. So far this year the state has done around 55,000 acres of prescribed burning. The southeastern United States churned through 5.5 million acres last year—100 times more. And the southeast as a region is only about five times bigger than California.

“When you look at the southeastern US, it’s not a place where we think of as having a lot of wildfires, and they really don’t,” says Kolden. “That’s because the southeastern US does an enormous amount of prescribed fire because their vegetation grows back so quickly.”

California’s densely packed wilderness has another thing going against it: power lines. Indeed, the prime suspect of the Camp Fire is the local utility, PG&E, which reported an electrical incident at the conflagration’s origin just before crews spotted the blaze. The utility may be to blame for last year’s Tubbs Fire as well. The question then becomes: Why on Earth are we not burying power lines?

The reason is lots of metamorphic rock: very dense stuff that forms in high pressure and high heat conditions. It’s not easy to drill through. “It becomes prohibitively expensive to bury lines and still be able to provide access to those lines,” Kolden says. Utilities can bury them where there’s dirt, sure, but it’s still going to be very expensive.

Fire Is a People Problem

Yes, California needs to get better about fuel management. But at its core, wildfires are a people problem. Traditionally, fires in the state have raged either in the wilderness, or in cities. Which is why we have wildland firefighters, who are lightly outfitted, and urban firefighters, who wear much heavier protections to enter burning buildings.

They’re also trained in radically different ways. “Structural city firefighters are really focused on saving people, and they understand a lot of the chemistry and physics of burning buildings,” says Kolden. Wildland firefighters, on the other hand, know how fire behaves in forests.

But now that wildfires are moving into California cities, both groups are being marshaled to fight fires where they’re not accustomed to fight. The question now is whether to train firefighters to handle both scenarios, or better assign resources to make sure each group fights where they’re most comfortable. Kolden believes that the latter is the safer option.

Then there’s the matter of training everyone else living in California—building with better materials, clearing out defensible spaces. Take it from the city of Montecito in Southern California, a model for how to bolster a community against wildfire.

A few years back, Kolden helped put together a worst-case scenario model that projected a fire driven by 60-mile-per-hour winds could destroy 400 to 500 homes in Montecito, a super-wealthy community on the Southern California coast. Last year, that conflagration came in the form of the Thomas Fire. But Montecito had been readying itself for decades.

“They really focused on defensible space around homes, particularly the homes that were closest up against the wildland areas,” says Kolden. “They focused a lot on doing brush removal along their road system.” And they made a mountain of information available to firefighters who might come from out of town to help battle a blaze. Basically: This is how we’ve prepared.

When the Thomas Fire hit, they lost seven homes, not 500. They couldn’t even rely on aircraft to drop water. “To me it was a model,” says Kolden. “This community has figured out what works for them. And the homeowners are 100 percent bought into it, and they’re all working together to make the community resilient to fire.” To be clear, what works for a coastal town like Montecito might not work for a forest town like Paradise—each community is unique, and will need its own unique solution.

Sadly, a month after it broke out, the fire Thomas Fire took its true toll on Montecito: Heavy rains triggered mudslides on burned-out land, killing 21 people in the area.

Still, Montecito had an excellent fire evacuation plan in place, in stark contrast to what just happened in Paradise. The Mercury News reports that the evacuation was absolute chaos. Many residents are saying they received no warning at all from authorities, and only made it out because they either spotted the flames or a neighbor came for them. Fleeing at the last minute, residents crammed the few escape routes. Some abandoned their cars to escape on foot. Not everyone could. Paradise is a retirement community—the elderly need time and sometimes special arrangements to clear out of their homes, let alone out of town.

“It’s what I feared,” says Thomas Cova, who studies wildfire evacuations at the University of Utah. “It looks like we’re repeating history again from the Tubbs Fire last year.” During that disaster, authorities opted not to send an alert, fearing they’d cause alarm and hamper emergency efforts. The fire claimed 22 lives.

McLean, of Cal Fire, says that his organization immediately notified the Butte County Sheriff’s Department when they spotted the blaze. The sheriff is then in charge of sending out an alert. But something—what, exactly, isn’t yet clear—went awry. “We have a warning failure of really epic proportions,” says Cova.

A particularly powerful tool is the Amber alert system, but Paradise residents say they didn’t receive warning through it. Either the sheriff’s office didn’t send it, or it somehow failed. (The mayor of Paradise says the town did have an evacuation plan that they practiced in 2016.)

As Montecito proved last year, it doesn’t have to be this way. “We know enough to stop this,” says Pyne. “We knew enough decades ago.”

Fueled by climate change and fierce winds and desiccated vegetation, fires will keep licking at cities like Paradise. The future of cities will depend on how serious they get about fuel management and building codes and in case that fails, evacuation procedures. To that end, in September, California Governor Jerry Brown signed legislation that bolsters wildfire prevention efforts.

California will have to spend billions upon billions to fix this problem, but that’s a tiny investment compared to what it stands to lose.

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The airplane that could herald a new generation of supersonic passenger flight looks an awful lot like a fighter jet. It’s long and sleek, with a narrow wingspan, two tandem seats, and three engines blasting full afterburners to propel it to twice the speed of sound.

Look the part, be the part. “This thing will handle very much like a fighter jet,” Boom Supersonic test pilot Bill “Doc” Shoemaker says with a grin. “We have to actually limit its capabilities a bit so passengers stay comfortable.” The F/A-18s this former US Navy pilot used to fly would lose a top speed contest to Boom’s new airliner by a healthy 1,451 mph.

Shoemaker is actually talking about two aircraft: a 1/3-scale demonstrator the company is building now to prove out its supersonic technology, and the full-scale airliner that, come 2025, will carry 55 passengers to Mach 2.2 at 60,000 feet altitude. To avoid sonic boom-related speed restrictions, Boom will mimic the Concorde in sticking to transoceanic routes.

For that to happen, the company has to raise about $6 billion in funding, clear all the safety and reliability hurdles required of new commercial aircraft, and be economical enough for airlines to even want the thing. Despite the appeal of going supersonic, no airline will forget the famed Concorde’s famously monstrous financial record.

“To make this whole effort successful, you need to have technology that works, customer demand, the cooperation of great suppliers in the industry, and you need to have an approach that will ensure certification and regulatory approvals,” Boom CEO Blake Scholl says from his new headquarters outside Denver. “We’re now spiraling up through all those challenges, and one of the strategies for that is to build the XB-1, which we can do with the money we already have.”

The XB-1 is that demonstrator plane, 60 feet long and dubbed the “Baby Boom.” Developed with some of the $85 million the company has raised so far, it will go just as fast as the proposed airliner, and allow engineers to assess the aerodynamic performance of their design and the structural qualities of the carbon fiber airframe, as well as the general engine setup.

The scaled-down flier will use a trio of General Electric turbojets; the airliner will use new engines that are more efficient and powerful, and thus don’t require afterburners, but don’t quite exist yet. Boom is soliciting proposals from the major engine manufacturers. In the meantime, Boom’s engineers are using wind tunnels and test facilities to develop their propulsion strategies—what works for the demonstrator will, for the most part, also work for the bigger airliner.

Propulsion engineer Ben Murphy is leading much of that work, including using test facilities at the US Air Force Academy in Colorado Springs. “Our ultimate goal is safe and efficient engine operation from idle through Mach 2.2,” he says.

That mean designing inlets that can take air moving twice as fast as sound and slow it to the subsonic speeds at which its engines can operate. Boom will use an adjustable inlet that adjusts airflow based on the phase of flight—more open during takeoff and landing, more constricted during high-speed cruise. Murphy says that in one year of work, his team has exceeded the Concorde’s inlet performance, and at higher speeds than that airplane could fly. “Efficient inlets mean lower fuel consumption, and this lesson we’ve learned on XB-1 will help improve the operating economics of Boom’s airliner,” he adds.

Boom is also using the XB-1 to hone its carbon fiber manufacturing techniques, ensuring that the pieces that will make up its plane have the not just the right durability, strength, precision, and lightness, but thermal performance at high speeds. Structural elements expand when heated. “At Mach 2.2, the nose and leading edges of the wings will be 307 degrees Fahrenheit,” Scholl says. “That’s toasty.”

“You want thermal expansion to be matched, so that everything grows at the same rate,” explains Scholl, a private pilot who began his career in the technology world, in digital marketing with Amazon. The pieces being made in California are sent to Denver, where they’re tested for strength and rigidity. Eventually all will be assembled into the XB-1, which the CEO estimates will fly by the end of 2019.

Boom Supersonic isn’t without competition in this quest. Boston-based Spike Aerospace and Aerion Supersonic in San Francisco are building supersonic airplanes along similar timelines. Those two companies, though, are targeting the business jet market with smaller craft and and lower speeds of Mach 1 to 1.4.

Boom’s speedier flying will undoubtedly give it extra appeal to the airlines considering it, and so far it has drawn preorders and investments from Japan Airlines and Virgin Group. (No surprise on the latter—Richard Branson once tried to buy the Concorde fleet British Airways was retiring.) If the XB-1 proves out Scholl’s vision, it will presumably draw still more money from airliners and investors. And if for some reason it kills the argument for the 55-passenger airliner, Scholl says he could just start selling the demonstrator to wealthy aviators looking to rocket between meetings.

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In his years-long career developing software for power grids, Stan McHann had never before heard the ominous noise that rang out last Wednesday. Standing in the middle of a utility command center, he flinched as a cyberattack tripped the breakers in all seven of the grid’s low voltage substations, plunging the system into darkness. “I heard all the substations trip off and it was just like bam bam bam bam bam bam bam bam,” McHann says. “The power’s out. All you can do is say, OK, we have to start from scratch bringing the power back up. You just take a deep breath and dig in.”

Thankfully, what McHann experienced wasn’t the first-ever blackout caused by a cyberattack in the United States. Instead, it was part of a live, week-long federal research exercise in which more than 100 grid and cybersecurity experts worked to restore power to an isolated, custom-built test grid.

In doing so they faced not just blackout conditions and rough weather, but also a group of fellow researchers throwing a steady barrage of cyberattacks their way, hoping to stymie their progress just as a real enemy might.

Power Play

Funded by the Defense Advanced Research Projects Agency, the exercise, which ran the first week of November, served as a testing scenario for seven DARPA-developed grid recovery tools.

But while the situation was manufactured, the conditions of the exercise were all too real. Researchers built their test grid off of the already isolated power grid on Plum Island, a Department of Homeland Security animal disease research facility at the tip of Long Island’s North Fork. Roughly the size of Manhattan’s Central Park, Plum Island sits about three miles offshore in the Long Island Sound, and is accessible only by ferry. In addition to DHS’s livestock research facility, Plum Island is also home to ruins from armaments and fortresses built during World War I and II, pristine beaches, a lighthouse built in 1898, and even packs of gregarious harbor seals in the winter.

The result: A surreal combination of utilitarian federal operations, breathtaking natural habitat, untapped Hamptons real estate, and a nagging sense of foreboding. (Despite persistent conspiracy theories, DHS representatives patiently but firmly deny that there is anything creepy about the island.)

“When we first started the program, we were working in university labs and simulating everything,” says Walter Weiss, the DARPA program manager who oversees the agency’s research into restoring power to a dead grid—what utilities call “black start.”

During one early RADICS meeting, Weiss convinced the host university to cut power to the floor the team was on, forcing researchers to consider how the tools they were researching would remain effective during a blackout. “We said, ‘Imagine you’re going to an island,'” Weiss says, laughing.

Assume Breach

Over the past few years, the threat of grid hacking has morphed from a distant possibility to a stark reality. The most chilling incidents to date are two cyberattack-induced blackouts in Ukraine—one in December 2015 and the next a year later in December 2016—that caused power outages for hundreds of thousands of residents in Kiev for a few hours each time. Both attacks are thought to have been perpetrated by Russian state-sponsored hackers. And though a similar incident hasn’t played out in the US so far, there is increasing evidence that various hacker groups have infiltrated US grid defenses. The Department of Homeland Security warned repeatedly this year that it has detected extensive Russian probing of the US grid.

But awareness can only get you so far. For actual resilience, the industry needs what cybersecurity practitioners call an “assume breach” mentality: thinking not just about how to keep attackers out, but knowing how to respond if and when they do break in.

Since the end of 2015, DARPA’s Rapid Attack Detection, Isolation and Characterization Systems program, which Weiss oversees, has taken up that mantel for power grids. RADICS seeks to develop tools that aid in three phases of black start after a cyberattack. The first involves creating sensors that can give accurate readings and situational awareness even after a hack has potentially skewed or degraded the reliability of existing monitoring equipment. The second looks at developing specialized equipment for rapidly setting up a secure backup network in a pinch, since whatever malware caused the blackout may still infect some systems. And the third focuses on tools that can quickly scan for threats to help understand how an attack happened, and how to lock down any remaining hacker footholds as power comes back online.

Those tools are all necessary pieces in the critical puzzle of jumpstarting a dead grid. “The real weakness is just how do you get that power back from nothing after 30 days when you don’t even know what’s up,” says Gary Seifert, a federal electrical engineering contractor who conceived much of the RADICS test grid on Plum Island.

RADICS conducted a relatively small black start pilot exercise on Plum Island in June; the grid at that time was designed to be managed by a single utility running a diesel generator, known as Utility A, and a small cluster of substations. A grid is essentially made up of a utility’s generators—which power a system—substations that transform electricity from low to high voltage to be transmitted across power lines over long distances, substations that transform electricity back down to lower voltage for local distribution, and customers who receive electricity. For this month’s followup, which DARPA hosted in conjunction with the Department of Energy, RADICS expanded the test grid to include a second utility and generator, known as Utility B, and a number of additional substations.

In the scenario laid out for the exercise, a massive cyberattack knocks some portion of the grid offline for weeks—long enough that residual power and substation batteries would all be depleted. Utility B’s goal is to black start as quickly as possible, to deliver power to a customer that has been designated a critical asset. After failures plague Utility B, Utility A then needs to step in, restarting to offer redundant power to that same critical customer.

In order to interact and safely share electricity, utilities also need to get their electromagnetic frequencies in tune at around 60 hertz, so part of the exercise involved not just getting Utility A and B running, but syncing them.

“We had 18 substations, two utilities, two command centers, and we had two generation sources that we had to bring up a crank path and synchronize,” says Stan Pietrowicz, a researcher at Perspecta Labs who is working on a black start network analysis and threat detection tool through RADICS. A “crank path” is a plan for restoring substation networks and seeding power back into a grid. “It had a realism that you don’t really find in lab environments that made you rethink the approach. Do you turn up everything at once? Do you turn up smaller pieces of the grid and put them in a protected environment to do cyberforensics?”

Black Start

The test grid was designed to mimic the hodgepodge of technologies that coexist in real industrial control deployments. Vital systems like the grid can’t be taken offline casually or overhauled easily, so equipment often remains in place for decades. Black start recovery, especially after a cyberattack, involves navigating, defending, and configuring generations of technologies.

The Plum Island exercise emphasized the difficulty of physically delivering and installing equipment during a massive power outage. The teams established secure landline systems to communicate, with many researchers working at a remote station on mainland Long Island and other crews on Plum Island itself. The exercise included volunteers from major utilities around the country in addition to cybersecurity researchers.

One of the recovery tools in development for surveying a grid from above is simply a balloon that has lightweight electromagnetic radiation detectors inside. In a blackout, utilities could launch the balloons, which would look for simple indicators of live power, like whether home Wi-Fi routers are on and emitting a network. The balloons could also detect whether two grids were operating separately or had come into sync, by listening for the “hum” around 60 Hz emitted by electrified infrastructure. Other tools included black boxes that monitor grid equipment, and remote equipment that can hook into secure industrial control networks.

The conditions on Plum Island factored in throughout the week. Multiple rainy days with high winds made taking the ferry back and forth to the island, and physically working on the grid, difficult. One day, the researchers were instructed to pack overnight bags in case they couldn’t come back from the island until morning. The balloons weren’t reliable in the bad weather, so some of the researchers tried flying the sensors on a kite instead. That proved impractical with the winds. And all the while, the so-called red team kept hacking away.

“Most of the exercise was really about trying to figure out what was going on and deal with the conditions,” Pietrowicz says. “It wasn’t a hit and run—while we were cleaning things up the adversary was countering our moves. There was one instance on the third day of the exercise where we almost had the crank path fully established and the attacker took out one of our key substations. It was sort of a letdown and we had to just keep going and figure out our next viable path. Even that small victory got taken away from us.”

Ultimately, the participants succeeded in black starting the two grids, and largely achieved the two goals of the exercise. But they say that the most valuable insights came from the setbacks along the way.

New Tools

DARPA will run another even more sophisticated version of the exercise on Plum Island in May, and hopes for more after that. Eventually RADICS’s Weiss hopes that the entire apparatus will be adopted by an organization like DOE to offer preparedness training exercises for government workers and utilities over the long term.

And though many of the RADICS response tools remain in development, some are already in use in active grid instillations around the country. One is a machine intelligence tool from researchers at the National Rural Electric Cooperative Association, a trade group that represents more than 900 independent utilities around the US. NRECA’s tool establishes a baseline for normal behavior on critical infrastructure networks and then uses that standard to help detect deviating voltages, new devices on a network, or other unusual behavior. A handful of utilities around the country, including Wake Electric in North Carolina, have already put it to work. And it has benefits beyond doomsday scenarios; it has already detected seven fires and identified situations where too much current is flowing through a transformer and wearing it out.

Though NRECA is composed of independent utilities that serve low-density areas, NRECA chief scientist Craig Miller says that the organization supports RADICS research because its members are worried about cybersecurity intrusions. “We see probes multiple times a day. People try to get in, they knock on the door,” Miller says. “We’re concerned about cybersecurity because the grid is changing. The new grid is more distributed and it’s something that’s actively managed, which makes us greener and more efficient and more reliable and resilient. But it also makes us more vulnerable.”

For researchers exposed to the elements on Plum Island and scrambling to handle the RADICS exercise day after day, that vulnerability was palpable. Given the urgency of strengthening grid defenses and recovery plans, there may be nothing more important right now than that reality check.

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1. Emotional Stress

2. Environmental Stress

3. Relational Stress

4. Work-related Stress

BERLIN (Reuters) – German Finance Minister Olaf Scholz said he favors getting a binding deal on a European Union digital tax at a meeting of EU finance ministers in December and that he supported the French model.

“If the negotiations continue the way that they have been going, we’ll still be in talks in 100 years. That is why I support the French model and want to offer the proceeds to the EU,” news weekly Der Spiegel quoted Scholz on Monday as saying.

There has been discord among European Union member states over a proposed EU plan to tax big internet firms such as Google and Facebook on their turnover.

Germany called this month for a revision of the plan that would exclude from the proposed tax activities linked to carmakers.

French Finance Minister Bruno Le Maire said on Monday that an agreement was close to being struck.

Scholz also said the EU should push ahead with minimum corporate tax rates and effective taxation of digital companies from January 2021 if states fail to reach an international agreement on tax avoidance. “We are in principle in agreement with our French friends on such a two-step strategy,” he said.

TOKYO (Reuters) – SoftBank Group Corp (9984.T) has won approval to conduct a 2.4 trillion yen ($21.04 billion) initial public offering (IPO) of its Japanese telecoms business, in a deal that will seal the group’s transformation into a top global technology investor.

The following are details of the planned IPO.

WHY IS SOFTBANK DOING THIS?

SoftBank Group has shifted its focus from being mainly a Japanese telecoms operator to a major investor in global technology startups.

By listing the domestic carrier business, SoftBank is seeking to concentrate on its global investments and give investors a choice to decide between a stable mobile business and a more risky investment business.

The parent group’s founder and chief executive, Masayoshi Son, has said the IPO proceeds will also enable SoftBank to pay down debt and provide a supply of cash for further investment.

“By spinning off the mobile unit, we have a company with relatively stable cash flow on one hand and a big private equity fund on the other,” said a top executive at one of SoftBank’s major creditor banks.

HOW BIG, AND WHY SO BIG?

The total size of offering could rise by 240.6 billion yen if an overallotment is exercised, taking the total fundraising closer to the $25 billion that Alibaba Group Holding Ltd (BABA.N) raised in 2014 in the world’s biggest-ever IPO.

While IPOs usually offer opportunities with relatively young companies with big growth potential, SoftBank’s offering will provide investors with access to an established business with stable cash flow generated from its 40 million mobile subscribers.

SoftBank Corp forecasts net profit to grow 4.8 percent to 420 billion yen in the business year through March 2019.

But some analysts fear its growth will be limited due to government support for more competition and lower prices, while e-commerce firm Rakuten Inc (4755.T) aims to enter the market in October.

“The domestic market is mature, so growth will be tough. Rakuten’s entry will also increase competition,” said Takashi Nakamura, senior strategist at Tokai Tokyo Research Institute.

“Without growth in the top line, and expectations of price competition ahead, one cannot be optimistic.”

Based on a tentative offering price of 1,500 yen per share, SoftBank Corp’s market value will be about 7.2 trillion yen, making it the eighth-largest listed firm in Japan, immediately above Uniqlo clothing chain operator Fast Retailing Co Ltd (9983.T).

Japan’s biggest mobile phone network provider, NTT Docomo Inc (9437.T), has a market capitalization of 9.6 trillion yen and second-ranked KDDI Corp (9433.T) is at 6.2 trillion yen.

WHO WILL BUY THE SHARES?

SoftBank plans to offer 89 percent of the shares on sale to domestic investors, nearly all of which will be targeted at retail investors, people familiar with the matter have told Reuters.

Japanese households are an attractive target with their 1,800 trillion yen in financial assets. But they are famously risk-averse, holding over 50 percent of assets in cash and deposits and only around 11 percent in stocks. By comparison, Americans hold 13 percent of their assets in cash and deposits, and 36 percent in stocks.

SoftBank is wooing individual investors with a pledge to return 85 percent of its income to shareholders. That is well above Docomo’s around 57 percent payout ratio expected in the current fiscal year and KDDI’s 39 percent.

Banking industry sources have said SoftBank’s wide brand recognition should also prove popular with individual investors, including those new to stocks.

The triple IPOs by Japan Post Holdings Co Ltd (6178.T) and its two financial units in 2015, which raised combined 1.4 trillion yen, helped attract record numbers of retail investors to stocks, data by the Tokyo Stock Exchange and other bourses showed.

WHAT’S NEXT?

Nov 30: Indicative price range set

Dec 3-7: Book-building period

Dec 10: Offering price set

Dec 19: Trading starts

WHO ARE THE UNDERWRITERS?

Nomura Holdings Inc (8604.T), Mizuho Financial Group Inc (8411.T), Deutsche Bank AG (DBKGn.DE), Goldman Sachs Group Inc (GS.N), JPMorgan Chase & Co (JPM.N) and SMBC Nikko Securities Inc are joint global coordinators.

($1 = 114.1700 yen)

(Reuters) – Apple Inc said on Friday it had found some issues affecting some of its iPhone X and 13-inch MacBook pro products and said the company would fix them free of charge.

The repair offers are the latest in a string of product quality problems over the past year even as Apple has raised prices for most of its laptops, tablets and phones to new heights. Its top-end iPhones now sell for as much as $1,449 and its best iPad goes for as much as $1,899.

Apple said displays on iPhone X, which came out in 2017 with a starting price of $999, may experience touch issues due to a component failure, adding it would replace those parts for free. The company said it only affects the original iPhone X, which has been superseded by the iPhone XS and XR released this autumn.

The screens on affected phones may not respond correctly to touch or it could react even without being touched, the Cupertino, California-based company said.

For the 13-inch MacBook Pro computers, it said an issue may result in data loss and failure of the storage drive. Apple said it would service those affected drives.

Only a limited number of 128GB and 256GB solid-state drives in 13-inch MacBook Pro units sold between June 2017 and June 2018 were affected, Apple said apple.co/2AXkeEw on its website.

Last year, Apple began a massive battery replacement program after it conceded that a software update intended to help some iPhone models deal with aging batteries slowed down the performance of the phones. The battery imbroglio resulted in inquires from U.S. lawmakers.

In June, Apple said it would offer free replacements for the keyboards in some MacBook and MacBook Pro models. The keyboards, which Apple introduced in laptops starting in 2015, had generated complaints on social media for how much noise they made while typing and for malfunctioning unexpectedly. Apple changed the design of the keyboard this year, adding a layer of silicone underneath the keys.

Tier V: The fattest states

Tier IV

Tier III

Tier II

Tier I

DENTSPLY SIRONA, Inc. (NASDAQ:XRAY) Q3 2018 Earnings Call November 8, 2018 5:00 PM ET

Executives

John P. Sweeney – DENTSPLY SIRONA, Inc.

Nick William Alexos – DENTSPLY SIRONA, Inc.

Don M. Casey – DENTSPLY SIRONA, Inc.

Analysts

Brandon Couillard – Jefferies LLC

Jeff D. Johnson – Robert W. Baird & Co., Inc.

Tycho W. Peterson – JPMorgan Securities LLC

Jonathan David Block – Stifel, Nicolaus & Co., Inc.

Erin Wilson Wright – Credit Suisse Securities (NYSE:USA) LLC

Nathan Rich – Goldman Sachs & Co. LLC

Steven Valiquette – Barclays Capital, Inc.

Steve Beuchaw – Morgan Stanley & Co. LLC

John C. Kreger – William Blair & Co. LLC

Yi Chen – H.C. Wainwright & Co.

Operator

Good day, ladies and gentlemen, and welcome to the Dentsply Sirona Third Quarter 2018 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will follow at that time. As a reminder, this conference call is being recorded.

I will now like to introduce your host for today’s conference, John Sweeney, Vice President of Investor Relations. Sir, you may begin.

John P. Sweeney – DENTSPLY SIRONA, Inc.

Thank you, Ashley. And good morning and thank you, everybody, for joining us today. Welcome to our third quarter 2018 conference call. I’ll remind you that an earnings press release and slide presentation related to the call are available on our website at dentsplysirona.com.

Our earnings call presentation and many of the numbers discussed on the call today will be non-GAAP financial measures and there are reconciliations provided in our press release and in our earnings deck. The earnings call will be a little longer than usual today, as Don and Nick would like the opportunity to tell you about the diagnostic they’ve completed on the business and details of the upcoming restructuring plan.

But before we begin, please take a moment to read the forward-looking statements in our earnings press release. During today’s conference call, we’ll make certain predictive statements that reflect our current views about the future performance and financial results and we base those statements on certain assumptions and expectations of future events that are subject to risks and uncertainties. Our most recent Form 10-K and Form 10-Q lists some of our most important risk factors that could cause actual results to differ from our predictions.

And with that, I’ll now turn the call over to Don Casey, Chief Executive Officer of Dentsply Sirona.

John P. Sweeney – DENTSPLY SIRONA, Inc.

Thanks, John, and thank you for joining us on our third quarter earnings call. We have a lot to cover, and appreciate you taking time with us this evening. Before talking about the specific results, I wanted to offer some perspective. After spending nine months here, a few things are very apparent. The first is that the dental industry is a great place to be with positive underlying trends relating to demographics, technology and economics.

Further, I believe, that Dentsply Sirona is well-positioned to succeed with a strong global footprint, important brands that have a loyal following, a strong track record of innovation tracing back over 100 years and, most importantly, a dedicated, passionate workforce.

But it’s equally clear that our current business performance and trajectory over the past three years is not where it needs to be. We are not living up to our potential to deliver for our customers, investors and our employees. Our results in this quarter further highlight the need to take decisive action to better position the company for long-term value creation.

As part of the call today, we will outline the results of an extensive diagnostic and offer a major restructuring plan that we’ve begun executing against. Key components of that plan will focus on how we deliver sustainable 3% to 4% revenue growth and an operating margin of 20% by 2020, with further improvements targeted through 2022.

We plan to simplify the organization and have developed an aggressive cost-cutting savings target of over $200 million today. Just as we are disappointed in and fully accountable for our results, as we go through the presentation today, you will see that we are optimistic about the future of the business and that we are committed to taking the necessary steps to deliver attractive financial performance going forward.

Let’s begin with the summary review of the third quarter. As you can see on slide 7, our top line was down 6.5% on internal basis in the third quarter. The revenue decline was significantly impacted by planned changes in our dealer inventory stocking levels in our Technologies & Equipment segment; and a $20 million reduction in Consumable revenues, resulting from a startup challenge in the new central distribution hub in Europe.

Our lower top line and increased expenses drove an adjusted operating income margin of 13% and adjusted EPS of $0.38. Operating cash flow was $126 million in the third quarter, reflecting the strong underlying cash flow generating capabilities of Dentsply Sirona.

Before I go into more detail on our restructuring plan, I will now turn the call over to Nick Alexos, who will go into more details on our financial performance and outlook for the rest of the year.

Nick William Alexos – DENTSPLY SIRONA, Inc.

Thank you, Don. And for everybody’s reference, we’re on page 9 of the slides, the segment performance for Consumables. As you know, we report across two segments: Consumables and Technologies & Equipment. Our Consumables segment accounted for 47% of our revenue for the third quarter and represents a diverse portfolio of products that provide steady growth at stable margins.

However, in Q3, as Don mentioned, our Consumables segment had an internal revenue decline of 3%, as we had a $20 million revenue shortfall resulting from operational issues at our European distribution center in Venlo, the Netherlands. Venlo is our centralized European distribution site.

As a result of the move to Venlo during the last year, in Q3, we experienced startup shipping delays for some of our product lines. We’ve put systems and a team in place now to fix these particular issues, and have seen improvement back to levels required for hitting our fourth quarter shipment forecast. While this was unfortunate, the facility will provide us with the infrastructure to more efficiently serve our customers in the European market.

Excluding the Venlo impact, Consumables revenues actually achieved low-single digit growth. The lower shipment volumes for Venlo, however, which caused also an unfavorable mix shift on our product sales, were the principal driver of our Consumables segment margin decline by 370 basis points as compared to the 2017 third quarter.

If you now go to page 10, segment performance for Technologies & Equipment. This segment accounted for 53% of the revenue for the third quarter. As you all know, our T&E segment has a number of unique technologies and includes our implant and healthcare businesses.

Q3 revenues in this segment declined by 11.3% and were down 9.3% on internal basis. Here, we had planned for and previously discussed some of the significant revenue reductions during the third quarter due to the dealer inventory restocking (00:06:37) of our equipment.

We had $34 million of dealer destocking in the third quarter, as opposed to $35 million of dealer stroking increases in the prior-year quarter for a net reduction in year-over-year revenue growth of $69 million.

Excluding the year-over-year stocking and destocking, T&E would actually have posted commendable growth for the quarter. In partnership with our primary dealers, we had actually a very successful DS World in October, which evidences good retail demand for our full range of products.

We did also see positive traction in implants and in our healthcare business, Wellspect, which serves the hydrophilic catheter market. Healthcare showed strong performance, up mid-single digits. This is a business that continues to realize revenue and profitability growth.

Technologies & Equipment margins were down 1,330 basis points as compared to prior year. This is significant margin compression as a result of a variety of factors. The year-over-year changes in Technologies & Equipment revenue due to the destocking that I mentioned versus stocking the year before, reduced T&E margins by about 600 basis points through just lower absorption in our fixed cost structure.

Product mix and pricing in certain businesses in Technologies & Equipment further reduced margin by approximately 300 basis points. And we also had some investments in marketing and sales capabilities, which we’ve talked about previously, in order to drive the continued growth that we’re seeing in retail demand. And this impacted margins by about 200 basis points.

If you now go to slide 11, we can speak to the regional revenue performance. Looking at our business performance on a regional basis, U.S. revenue declined 10% on an internal basis in the quarter mainly due, once again, to the inventory destocking in our CAD/CAM and imaging business, which is principally in the U.S. Looking to the balance of 2018, we expect our revenues will continue to be lower versus prior year for the same reason.

Going to Europe, revenues declined 8.4% on an internal basis, primarily driven by the revenue shortfall we mentioned with regards to Venlo and some softness in the equipment markets in Central Europe. As we move into the fourth quarter, we’re beginning to see signs of normalized growth in the European equipment market suggesting that the downturn was temporary. Rest of world revenues increased 1.5% on internal growth.

Now, why don’t we go to slide 12 for our consolidated non-GAAP financial summary. Revenues on a consolidated basis, excluding precious metals, declined 7.7% in the third quarter and were down 6.5% on an internal basis.

Of the $77 million of year-over-year decline in revenues, as you reconcile back, $69 million was due to the differential in stocking versus destocking for CAD/CAM and imaging; $20 million was due to the problems we encountered in shipping for our Consumables business at Venlo; FX reduced revenues year-over-year by $70 million; and then, acquisitions added $5 million; with the remainder of approximately $20 million driven by organic growth.

Gross profit was $512.1 million or 55.4%, down 360 basis points, as compared to the prior year. Net destocking in our T&E segment accounted for about 200 basis points of this gross margin decline. And then, other factors, including Venlo, mix in price, accounted for the remainder of the gross profit margin compression.

Total operating expenses, which includes R&D, were $391.8 million, up $12 million as compared to prior year or $18 million on a constant currency basis. While our operating expenses benefit from our cost savings program during the quarter, these savings were more than offset by increased marketing and selling expenses and expenses related to restructuring and the building out of our new organization, as well as additional R&D expenses ahead of IDS and the timing of certain other costs.

Adjusted non-GAAP margins consequently declined to 13%, down 812 basis points, as a result of the gross margin declines that we discussed and the increased SG&A expense.

With regard to the targeted $100 million cost savings initiative, we’ve already achieved year-to-date about $50 million of actual savings and expect to achieve another $20 million for the remainder of the year, with the balance flowing into our new restructuring program. On a net EPS basis for Q3 were $0.38, compared to $0.70 in the prior year.

Let’s go to slide 13 on cash flows, which shows that cash flow from operating activities for the third quarter were $125.6 million, down 24%; and cash flows from operations, less capital expenditures, were $76.2 million versus CapEx of prior year. In 2018, we continue to expect that capital expenditures will be approximately $200 million or slightly less.

One additional cash flow initiative we have is a detailed program to reduce internal inventory levels. At the end of the third quarter, we continued to hold inventory at higher levels than 2017 due to the elevated requirements in Venlo. And we are now targeting a reduction versus our Q1 level peak of $20 million versus the level that we had targeted previously of $30 million.

Lastly, in terms of guidance, page 14. On an income statement basis, at this point, based on our Q3 performance and our view of Q4, we continue to expect revenue of 2018 at $3.95 billion or a 2% constant currency decline over 2017. As we are seeing better retail demand for T&E products in key markets, our estimate for the dealer destocking for 2018 is now $110 million to $115 million, slightly above our previous guidance range of $100 million to $110 million, which we think is a quite healthy achievement for this year. To-date, we’ve incurred $69 million of destocking, which means we are planning approximately $40 million to $45 million of destocking in the fourth quarter, and that’s reflected in our revised guidance.

As a result of the weaker performance expected or resulted in the Q3, we now are looking at an OI margin of 15% to 15.5% for the full-year 2018. Given the lower-than-expected level of performance, adjusted EPS is now at or slightly below the bottom end of our previous range of $2 to $2.15. The new guidance includes the impact of Venlo, as well as some of the noted Q3 SG&A variances and the higher anticipated level of inventory burn.

Our tax rate assumption for 2018 remains at 22%. I want to reiterate our disappointment in our results, and I would also highlight the clear necessity to undertake the actions of our planned restructuring which are long overdue. At the same time, I share my appreciation for all our employees’ efforts in working to improve the financial and operating performance of Dentsply Sirona.

And with that, I turn the call back over to Don, who will give an overview of our restructuring plan.

Don M. Casey – DENTSPLY SIRONA, Inc.

Thanks, Nick. As I mentioned in the opening, over the last six months, we’ve conducted an extensive review of our business. This involves our board, leadership team, customers, partners and outside advisors. The conclusions have reaffirmed our thoughts on the positive long-term prospects for both the market and that of Dentsply Sirona. The analysis shows that the dental market is an attractive category with sales in excess of $25 billion. It is one that has consistently grown in the mid-single digits, with 2018 being no exception.

Growing economies, favorable demographics and new procedures will continue to fuel the market, more than offsetting some of the category consolidation and pricing pressure that has been seen over the last few years.

New innovations can drive growth and create entirely new platforms. As we’ve seen with CAD/CAM, imaging, implants and clear aligners, technology can transform dentistry and improve patient outcomes while making the dentist more efficient. The technology also allows general dentist to develop capabilities to perform procedures that were historically done by specialist, expanding care options for patients and enhance revenue streams for the dentists. All of this underlines the growth potential of dentistry.

Our assessment also highlighted Dentsply Sirona’s unique positioning within this market. We have a truly global footprint that allows the company to maximize the sale of our innovations. Our company has major brands that serve as anchors in many of the critical procedures. These brands are well-recognized and have a very loyal following, and will service platforms for us to expand from and to cross-sell solutions.

Our tracking study shows the company and many of our marquee brands have a well-deserved reputation for innovation and quality. We have an experienced and committed workforce of over 16,000 people today that carry on the legacy of serving customers for over 100 years. But reputation and legacy are no guarantee for future success, and our diagnostic has helped clarify critical areas where we need to improve. These areas include: inconsistent growth, margin compression, and organizational complexity.

Starting with growth on slide 17. Today, our analysis identified four major causes for our lack of consistent growth. The first is that our R&D program has not delivered a consistent level of substantial innovation needed to increase sales. The second is that we have not created scale with the customer. Our individual businesses have viewed the customers as unique and distinctive, resulting in multiple approaches to often the same customer. They would be Tulsa customer or a CEREC customer, not a Dentsply Sirona customer. This diminishes our impact, while increasing costs.

The third is the need to improve our sales and marketing execution. Our analysis shows it will be important to take greater responsibility for our own demand creation. The major change in the U.S. Technology & Equipment area over the last two years highlighted that we’ve historically relied heavily on partners to create demand for a number of our products. While we think that is a very important part of our sales and marketing model, they also highlight the need for Dentsply Sirona to do a much better job supporting our own products with demand creation activity.

The second area of improvement in sales and marketing execution is being more rigorous around decision-making and the measurement criteria. By bringing greater discipline and evaluating our sales and marketing programs, we will generate greater impact and improve returns on this investment.

Finally, given the breadth of our platform, we believe it is imperative that we move from a product orientation to a customer focus in order to deliver meaningful solutions. Our margin compression can be attributed to several factors. The first is that we have a high fixed cost structure. Whether on our manufacturing network or sales and marketing organizations, we have a high level of fixed costs mainly related to human capital. This does not allow us to react quickly to changes in the market. Our results in 2018 highlighted this as we faced significant dealer inventory reductions without the corresponding reduction in our cost structure.

The second factor has been an expansion in sales and marketing spending at both the country and the strategic business unit level in anticipation of growth that has not been generated. The final area is pricing compression in some categories, like imaging. This pricing compression is a function of shift to lower price parts of our lines, as well as promotional efforts designed to maintain competitiveness.

The diagnostic also highlighted an unnecessarily complex business model. With 10 dental strategic business units interfacing with over 50 individual countries and over 200 legal entities, our current business matrix creates challenge that is expensive to maintain and makes clear accountability and prioritization very difficult.

While various restructuring programs have started in the past, they’ve not been completed. The result has been a partial evolution of the organizational structure that now needs to be addressed. Based on the review of our business, we formulated a comprehensive program to enhance growth, improve margins and simplify the organization. We believe that this program will enable us to deliver 3% to 4% revenue growth, and operating margins of 20% by the end of 2020, and a return to pre-merger levels by 2022 with continuous improvements thereafter.

In order to deliver this improvement, five new operating principles are being incorporated into the company that will help us achieve our aspirations. These operating principles include, first, approaching our customers as one across the entire organization. By understanding all the ways that we have a relationship with that customer across the entire company, Dentsply Sirona will be better able to serve that customer.

Second, we recognize the need to take full responsibility for creating our own demand. As we launch new technologies that can transform procedures, we have a response ability to educate dentists and their staff on how to use them and why our products are unique. And while our dealers do a wonderful job, it is our role to bring KOLs, clinical education and unique sales and marketing programs to help successfully sell our solutions.

Third, innovation is our lifeblood and, going forward, we have to ensure that our innovation is substantial and supportive. We need to prioritize our R&D spending across the entire company portfolio, rather than looking at each of the individual business units that have been driving their own innovation plans.

Fourth, Dentsply Sirona is the leader in clinical education, but we must take that to a new level. As there is more and more technology and product innovation, we believe that we can play a unique role across procedures by providing best-in-class clinical education, whether it’s through our state-of-the-art training facilities in places like Charlotte and Bensheim, or regional and local training events, or through our online presence. This will be a differentiator for us.

And, finally, we need to operate at scale. Our history of loose integration has not allowed us to get the operational efficiencies we need, whether in procurement, logistics, manufacturing, sales force or other marketing programs, we will look to create cross-company leverage going forward to take full advantage of our scale.

Under our plan to accelerate growth, there are four key programs. The first is a significant consolidation of our commercial organization, starting with the strategic business units. We will be moving from 10 dental SBUs to 4, while forcing them on strategic marketing and innovation.

Moving to a more focused approach here will allow for the creation of centers of excellence, elimination of duplication, and can allow the organization to better prioritize R&D and marketing programs.

As part of this consolidation responsibility for supply chain, we’ll move from the SBUs to a newly created central supply chain organization. While we’re keeping the current reporting segments, we will have five product groups. They’re: healthcare, which will continue to stand alone; we will then look at digital dentistry, which is composed of CAD/CAM and Orthodontics; next comes equipment and instruments, which will include treatment centers, instruments and imaging; implants will be stand-alone; and finally Consumables, composed of our restorative, preventive, endodontics and lab businesses.

In addition, we will be consolidating our regional commercial organization to focus on common country clusters. This strategy puts the customer at the center of how Dentsply Sirona is organized and, importantly, leverage sales and marketing infrastructure across multiple countries. This also serves to eliminate the duplication of resources at the corporate, regional and country level.

While we will continue investing in R&D, with spending in 2018 exceeding $160 million, going forward innovation will be prioritized across all the businesses to focus on the large initiatives that can generate the most benefit to the entire company.

As noted earlier, our current model relies on each SBU developing their own R&D priorities, and this has hampered the company’s ability to capitalize on the largest opportunities and allocate resources accordingly. This approach will lead to bigger ideas that are delivered faster with more complete support.

One of our biggest assets is our sales force. In addition to maximizing our return to this critical area, we are making some important changes. To become more customer-centric, all countries will move to a single unified sales and marketing structure.

Today, resources in the countries are mixed between some commercial efforts run by the SBUs versus other run by the countries. Further, we’ve recently concluded a major segmentation study in the sales force effectiveness diagnostic in the U.S. The results will allow for a much more analytically driven approach to targeting and call planning.

This will be enhanced by a single view of the customer, a single CRM system, and a single sales operation platform. It will also facilitate cross-selling opportunities and more pricing discipline, and we will bring this process to the globe.

Our experience in places like Latin America and China have also shown the importance of the emerging markets. In these developing economies, we have seen high-single digit growth opportunities. Applying our model of focused support to other areas of the world will continue to be an important part of our growth strategy. All of these activities will contribute to restarting our growth engine.

I will now turn to margin improvement and organizational simplification. In addition to the structural changes mentioned before, we’ll be looking at several other programs to improve our margins. A major initiative is moving to a centralized global supply chain.

Our supply chain has historically been run at the business unit or country level. This does not allow us to leverage critical areas for scale, including manufacturing, global demand planning, logistics, distribution or procurement; all areas that, given our size, should be a competitive advantage for Dentsply Sirona.

Moving to one supply chain will allow for scale, improved costs and more reliability. It’s important to note though that this movement will happen over two years as we build the structure necessary to accept this organization and avoid supply chain disruption.

As part of our diagnostics, several opportunities to shape our portfolio have been identified. Going forward, our focus will be on looking to address businesses that are non-core, not profitable or underperforming. There will be a strong bias to action.

It should be noted that Wellspect is not one of these assets. This business has been performing well and is accretive to our growth and profitability. It also benefits from leverage in our share back-office areas. As such, this would be an area of continued investment for us.

Supporting both the growth and the margin improvement initiatives is our organizational simplification effort. In addition to the consolidation around the strategic business units, the regional commercial units and the centralized supply chain, we will be reorganizing our support functions to serve these units. Functional realignment will happen as the commercial units are made operational.

Slide 31 details our head count reduction goals. As a result of the streamlining initiatives and margin improvement programs, we are targeting a net head count reduction of 6% to 8% by 2021 from the current level of roughly 16,300 people today. This is a very difficult decision for the organization, and we will work with our employees and workers council to determine the best outcome for all of them.

On slide 22 (sic) [32], we outline our anticipated $20 million to $25 million cost reduction program. We fully expect to drive margins of 20% by the end of 2020 and return to pre-merger levels by 2022, with additional improvements thereafter. The restructuring will result in a onetime charge and expenses of up to $275 million.

On slide 33, we outline our multi-year expectations. In terms of revenue growth, we can see Consumables holding steady at 2% to 3%. We anticipate Technologies & Equipment returning to growth in 2019, partially as a result of getting through our 2018 inventory destocking, but also due to the generally improving U.S. retail trends. This segment should grow 4% or even more going forward.

Taken together, we believe this will result in Dentsply Sirona revenue growth at/or above market, with our target of 3% to 4%. In terms of our operating income, our goal is to realize a margin of 22% by 2022. While 2019 will be a year focused on execution, we expect to see margins of 20% by the end of 2020.

This revenue and margin algorithm yield solid double-digit growth and adjusted EPS. This will translate into growth in operating and free cash flow, which we will then utilize to further enhance our financial performance. We understand that we need to reinforce our credibility by demonstrating that we are on track to achieve our goals.

On slide 34, we detail the key activities and associated metrics that will allow you to measure our success and our financial progress. Among the key activities we will report progress on, include the SBU and RCO consolidation, with our expectation that the majority of them will be completed in the first half of 2019.

A second key activity will be implementing a sales force effectiveness program, which we’ll be starting in the U.S. and transferred around the world through the course of 2019. Another critical activity is progress in creating a comprehensive R&D portfolio program. We expect it to be completed in 2019, and we’ll provide progress reports as appropriate.

And we will also provide an update on our portfolio shaping activities. Among critical non-financial metrics we will report on, include head count reduction, progress in critical growth markets, and the number of clinical education contacts that we have.

Financial measures will include revenue growth, operating income margin, as well as our progress on restructuring charges. This is an ambitious and comprehensive program, and there are obviously risks in pursuing a change initiative of this size. We’ve worked with our entire organization and outside advisors to make sure there are adequate resources to accomplish the plan.

A phase approach will allow us to focus on completing critical priorities before moving on. And above all, we have prioritized managing our customers and implementing a strong system of financial control to improve management visibility during this process.

So now to summarize. As you heard today, we are taking major steps to restructure our businesses to deliver on the promise of our portfolio. We’ve outlined a path that will lead to substantial value creation. We are focused on driving growth, improving margins and simplifying our business. We do recognize the scope of the undertaking and the task at hand.

Coming out of that business diagnostic, the board and management are convinced that this is the right plan. But we also acknowledge that the restructuring will take time. Our near-term priority’s execution in 2019 will be a transition year, but you will see signs of progress. We’re cognizant of risk mitigation to making sure that we do this in a way that does not disrupt our revenue stream, impact our customers or interrupt our supply chain.

You will see margins of 20% by 2020, with improvement to pre-merger levels thereafter; and we’re not done. We’re looking for more and are on a path to returning margins to pre-merger levels over the long run or higher. Our team looks forward to providing an update in 2019, including our progress against the KPIs and business initiatives that we’ve laid out for you today.

As this comes to a close, I wanted to relate that we just completed a two-day Leadership Summit with our top 50 leaders. I was very impressed by their passion for this company and commitment for delivering to our investors, customers and employees.

They’re excited about this plan, and this excitement is critical as we put Dentsply Sirona on a more sustainable path. We look forward to updating you on our progress regularly. In light of the restructuring we announced today, we will not be holding an Investor Day in the fourth quarter. We believe it is critical that we are focused on executing and delivering sustainable value.

And with that, we’ll open it up for questions. John?

John P. Sweeney – DENTSPLY SIRONA, Inc.

Yes. Operator, we’d like to take the first question, please.

Question-and-Answer Session

Operator

Thank you. And our first question comes from the line of Brandon Couillard with Jefferies. Your line is now open.

Brandon Couillard – Jefferies LLC

Thanks. Good afternoon. Quite a lot to digest there. I guess, Don, with respect to your 3% to 4% sort of top line growth outlook for the next few years, can you sort of speak to how you expect to achieve that, given the number of moves you’re making internally and the potential risks from disruption, as we’ve seen with the distribution center facility transition this quarter?

Don M. Casey – DENTSPLY SIRONA, Inc.

Yeah. I think that’s a great question. Thanks, Brandon, and thanks for spending time with us today. Look, right now, as we’ve gone through this change initiative, we’ve established two core priorities that we refer to as guardrails. The first is, we can’t interrupt our customer service and we’ve got to make sure our supply chain is reliable.

So if you listen to the presentation, we kind of talk about the fact that we will make the supply chain changes gradually. And one of the things we’re learning with things like Venlo is, we’ve got to make sure our processes are in great shape before we transfer. So we’re saying that supply chain will be a little bit more of a gradual kind of over the next 18 months, 2-year program to make sure that we have adequate supply of product that needs to support our selling initiatives.

In terms of – on the commercial side, it’s really interesting. I’ve been here nine months and I’ve been really impressed with our ability to generate sales in a lot of different places. But I do find it somewhat difficult to say, at a local country level, what our priorities are. So in our mind, by looking to move to four SBUs – four dental groups, if you will – and really focusing the R&D on bigger and more substantial innovation, we really think that we are going to actually simplify the execution at the country level, which we think will have a positive impact even though there’s going to be some change in the back.

The other issue is, we’ve been really working hard to make sure that our sales force effectiveness program, which we’re starting to implement in the U.S. in the first quarter of 2019, is really gradual. I mean the thing you don’t want to do is literally have 2,000 sales and marketing people waking up the following morning and doing something different.

So we’re really looking on focusing on maintaining each of the salespeople relationship with their critical customers and really helping them do a better job in understanding all the other areas that that customer is touched by Dentsply Sirona and look at cross-selling it and other solution things.

So, yeah, look, we understand it’s a big program. We have spent a lot of time with our leadership group to make sure that we outline clear priorities of, don’t interrupt your revenue stream, make sure that you’ve got an adequate supply of products, and let’s really get the commercial organization where it needs to get to quickly, and then let’s focus on really making our sales force hum in the field.

Brandon Couillard – Jefferies LLC

Thanks. And I guess one more…

Nick William Alexos – DENTSPLY SIRONA, Inc.

Go ahead, Brandon.

Brandon Couillard – Jefferies LLC

…if I could, just on the head count reduction. Could you just elaborate on what areas of the business that will come out of, whether it’s sales, R&D? Thank you.

Don M. Casey – DENTSPLY SIRONA, Inc.

Yeah. Thanks, Brandon. Look, we understand we gave you guys a ton of stuff tonight and we’re going to relax our one-question policy. So, look, as we go forward, I would tell you the strategic business unit and the regional commercial organization consolidation, it’s obviously a big chunk of what we have in the plan right now, and that will happen most immediately.

But as you begin to look at other areas, where we think that there’s significant opportunity is around supply chain, around some of the functional areas, that need to begin to reflect the new organizational structure. We think there’ll be considerable savings as we go through that. And a lot of this, Brandon, is really eliminating duplication. If we have a strategic business unit that is in charge of, say, Western Europe; and then the countries in Western Europe have similar people doing marketing of, say, implants, we really want to eliminate some of that duplication.

And then, over time, we also really have done a pretty extensive portfolio shaping analysis. And as we go through that, we think that there are some opportunities to really focus on units that may be not strategic, not really in our core, or really been underperforming for a number of years that we think we can move on, and that’s going to have an impact on heads (00:37:22).

So I would tell you, look, the SBU and RCO consolidation, followed by supply chain, are obviously areas of portfolio shaping. And, ultimately, we really don’t think that it’s going to be a big change in our sales force. We just like to make our current sales force more effective.

Brandon Couillard – Jefferies LLC

Super. Thank you.

Operator

Thank you. And our next question comes from the line of Jeff Johnson with Baird. Your line is now open.

Jeff D. Johnson – Robert W. Baird & Co., Inc.

Thank you. Guys, can you hear me okay?

Don M. Casey – DENTSPLY SIRONA, Inc.

Yeah, Jeff.

Jeff D. Johnson – Robert W. Baird & Co., Inc.

All right. Great. Hey, Don, how are you? So I guess my first question, and I’ll make it two very quick questions. But just kind of that path to 3% to 4% revenue and the path to 20%, it sounds like exiting 2020, if I’m hearing you right on that. But I would assume that’s going to be choppy. You’ve laid out a little bit on 2019, but I would assume we shouldn’t connect kind of dots as they’re more of a ramp at the end of it or kind of an acceleration in some of those improvements as we get deeper into these efforts.

Don M. Casey – DENTSPLY SIRONA, Inc.

First, Jeff, thanks for the question. And they don’t even have to be quick. Look, we’re not going to give you kind of a quarter-by-quarter margin expectation. I do think that we’re timing some of the commercial changes relatively quickly. And, look, the portfolio shaping, which are relatively minor businesses, will occur over the time period that we’re outlining.

I do think that, if you saw the press release, that we do say as – one of the ways we’re really looking to make sure that we’re showing performance quickly is we’re committing to our operating expenses being lower in 2019 than they were in 2018. And that’s kind of a way that we’re really holding ourselves accountable for not only head count changes, but really getting after cost.

And, Jeff, one thing I really want to emphasize and it’s one of the challenges when we’re trying to communicate a program this significant is, obviously, the hard numbers are sitting there in the costs and the head count. And I’ve referenced the top 50 meeting. Our leadership team fundamentally believes that really focusing the organization on bigger priorities and bigger bets and more substantial innovation is actually going to liberate the organization and really help it grow.

So one of the things when we talk about this program internally is really focus on, A, delivering the margin improvement that we have to deliver. But, boy, we get excited about the opportunity to really get after growth.

Jeff D. Johnson – Robert W. Baird & Co., Inc.

That’s helpful. And then, yeah, I guess let me just follow up, Don, on the question or on the point you made there on operating expenses coming down next year. Where do you think gross margins go next year and over the next couple years? Obviously, you talked about some price mix issues in imaging this quarter? We’ve written some notes, I’m sure others have, on kind of some of those pressures maybe continuing for a while. And some other cost pressures on the manufacturing side, you might have it on the product mix side. So just where do you think gross margin really move here in the next one to two to three years?

Nick William Alexos – DENTSPLY SIRONA, Inc.

Hey, Jeff. It’s Nick. Let me take that. Thanks for the question. As you know and as Don has mentioned, we’ve got a high fixed cost structure. So as we look at the performance that we’ve targeted in the strategic plan, I think you’re going to see both gross margins and then consequently operating margins improve as we better control our operating expenses.

So I don’t have any specific gross margin target for you. But if you kind of pencil out where we’re going to end up for the year given our guidance of 15% to 15.5% and then the 20% and 22% target, I think you’re going to see a good portion of that – I guess an even split between gross margin and operating margin. And, certainly, the savings that we’ve targeted fall into both buckets.

Jeff D. Johnson – Robert W. Baird & Co., Inc.

Thank you.

Operator

Thank you. And our next question comes from the line of Tycho Peterson with JPMorgan. Your line is now open.

Tycho W. Peterson – JPMorgan Securities LLC

Hey. Thanks. I’m going to try to (00:41:24) you guys out a little bit for 2019 as well. Just given that your long-term guidance is 3% to 4% in the top line, Street has you just under 3% top line next year. As we think about portfolio transformation, are you comfortable with where the Street is? And is it going to be a product-heavy year, given that it’s an IDS year or should we think about the following IDS cycles being maybe more important for you guys?

Nick William Alexos – DENTSPLY SIRONA, Inc.

Hey, Tycho. It’s Nick. I would say that we are definitely expecting a good IDS year, and I’ll let Don follow up on that. We’re in the midst of our budget process, so we don’t have a specific view on 2019. But as you know, with a dealer destocking of $110 million to $115 million this year, certainly, we would expect an uplift from that. And that will certainly help our absorption levels in our fixed cost facility. And that we’re also targeting OpEx being below. We should have a good year next year while we’re still ramping up our top line growth rate strategies.

Don M. Casey – DENTSPLY SIRONA, Inc.

Yeah. And, Tycho, just – obviously, you’ve tracked the category for a long period of time. IDS years tend to be significant years. The strategy we’re taking right now is we’re focusing on probably five to six big ideas and we’re really going to drive them, which is a little bit of a different tack than we’ve taken in the past, where it might have been 30 or 40 things where we try to be all things to all people.

We’re very comfortable that the innovations we are bringing and announcing at IDS are going to be significant. And, look, we’re not going to outline exactly what they are. Obviously, we’re in markets where you can tank markets in advance if you get too specific on what you’re launching. But we are very comfortable that we’re going to have a really strong IDS.

Tycho W. Peterson – JPMorgan Securities LLC

Okay. And then, a follow-up on equipment. The CAD/CAM numbers out of Schein were great, up 40%. You obviously had the destock headwind. Can you maybe just talk the momentum in the underlying market around CAD/CAM? And Jeff alluded to the pricing in his question. So can you maybe just talk on some of the strategies you’ve taken around pricing for CAD/CAM?

And then, lastly, if I look at your comments a year ago, you’ve called out I think about an $8 million inventory destock headwind. Today, you’re saying it was $34 million in the year-ago. So was that just the restatement that’s the difference?

Nick William Alexos – DENTSPLY SIRONA, Inc.

No. I think last year’s destocking for Q3 was the $34 million. Why don’t we check on that Tycho? And, Don, can you answer on the pricing for CAD/CAM and/or imaging?

Don M. Casey – DENTSPLY SIRONA, Inc.

Yeah. And, Tycho, if you go back to our second quarter call, we said that we were unhappy with the performance of our Technology & Equipment business, and we took a couple very specific actions; and I’ll come back to where pricing fits in that. The first is, we stood up at sales force that was focused on CAD/CAM. The second is, we launched a pretty comprehensive marketing program designed to create interest in not just CAD/CAM, but imaging as well.

The, third, we worked with our dealer partners, and they’ve been terrific and getting their sales forces aligned, giving their sales forces the right level of incentives. We also offered some financing and we’re seeing some very positive trends underlying. And Nick mentioned in his script that – he was talking about a very positive DS World, and we had a very good DS World. So I would tell you – and it hasn’t been about price. It is realistically getting back and fundamentally delivering the benefits of chairside dentistry, which we think is transformative.

I think longer-term one of the questions that we have to look at is, what is the impact of DI and CAD/CAM. And the interesting thing is that right now we’re finding that CAD/CAM is moving and we are seeing positive momentum there. And I don’t think that’s coming at the expense of DI. I think, there, some of the customers are beginning to segment themselves to say, look, I want to do DI and some of them want to do full chairside.

So, again, I think some of this is getting back to good old-fashioned blocking and tackling around CAD/CAM. And again, it was my first DS World. And listening to the loyalty that CEREC doctors have for this product is really impressive.

Tycho W. Peterson – JPMorgan Securities LLC

Okay. Thank you.

Operator

Thank you. And our next question comes from the line of Jonathan Block with Stifel. Your line is now open.

Jonathan David Block – Stifel, Nicolaus & Co., Inc.

Hey, guys. Thanks and good afternoon. I’m actually going to apologize in advance for this question, but I really think it’s important. You guys are about 30% below the EPS range for 2018 that you gave only nine months ago; and numbers have essentially come down for each of the past three quarters. You’re giving today numbers and goals that are two and four years out. And I guess what I’m asking is, why should people have conviction in those numbers?

And I am asking because if you look at the numbers, I think it implies to well over $3 in earnings power in 2022, which is really compelling. But how do you get people comfortable on the road map to achieve that? And then, I’ve got a shorter follow-up.

Don M. Casey – DENTSPLY SIRONA, Inc.

Sure. And, Jonathan, look it’s a question we fully expect. And, look, I would tell you nobody is more disappointed in the movement that we’ve been doing with guidance than Nick and myself. So that’s the first thing.

The second is why should people believe us? Well, if you listen to how we’re kind of laying out our KPIs. We are laying out three, kind of, things for you to measure things along. And the first is what we kind of call activities. And we fully expect to provide transparency on these major initiatives. Where are they? Did we deliver on our R&D portfolio? Did we deliver on the sales force effectiveness program and where are we?

The second part of that is, we’re really talking about non-financial metrics as we kind of go forward. And the last issue is, we’re saying that we’re going to report out on seven key financials, which are margin and all that stuff along the way.

In terms of what we’re trying to get done? Look, on the underlying part of the business, the first thing starts with growth. And right now, if you basically peel back our third and fourth quarter, one is an issue that we didn’t comprehend when we put together our budget in 2018, which was a major change in the dealer destocking of $110 million. That was pretty significant.

The second was, as we began to stand up a centralized facility in Europe, we had startup issues at the end of the quarter. We feel that that’s been resolved and that site is moving along nicely. So as you look at what has impacted our 2018, they’ve been very significant headwinds.

If you look at going forward, we’re trying to outline some very transparent steps around organizational structure, growth initiatives that we should be able to report on and give you mileposts along the way. But you’re only as good as your – as we deliver. So without trying to quote Bill Parcells, we understand that we have to deliver on these commitments.

Jonathan David Block – Stifel, Nicolaus & Co., Inc.

Okay. That was very helpful. I appreciate that. And maybe just a shorter follow-up is, something that’s certainly still the case, but might be temporary loss of investors as you’ve got a really under-levered balance sheet and good cash flow. But how do we think about deploying capital during this time of restructuring? Is management going to be overly focused on what you guys need to do over the next two to three years? Or can we still think about you guys executing on some tuck-ins along the way? Thanks for your time.

Don M. Casey – DENTSPLY SIRONA, Inc.

Yeah. Thanks, Jon. And I would say it’s the latter. Look, we believe that our go-to-market capabilities are really strong. And, look, we have a lot of areas that we think tuck-ins can really help us with the technology that we haven’t developed internally or help us with a solution.

So, look, I’m not going to give an exact number of where we expect to deploy cash in terms of make it available for tuck-ins versus other uses. But we are going to be actively in the market, where we can see technologies that would help us accelerate growth. Next question?

Operator

Thank you. And our next question comes from the line of Erin Wright with Credit Suisse. Your line is now open.

Erin Wilson Wright – Credit Suisse Securities (USA) LLC

Great. Thanks for taking my questions. So how is innovation a part of these new efforts to reinvigorate growth? And you mentioned the stepped-up innovation this year and an IDS year, but can you elaborate a little bit more on the pipeline? Do you have some more meaningful launches coming up even at Greater New York? Thanks.

Don M. Casey – DENTSPLY SIRONA, Inc.

We’re not going to do anything at Greater New York, Erin. Really the next big tranche of things will be IDS. And again, it’s new to me, to be honest, because coming out of medical devices you could usually talk about the next couple years. But, obviously, in our Technology & Equipment business we have a consumer that pays attention to what we say. And if we announce specific innovations, we have a potential to change our buying trajectory before them. So we’re not going to do that.

But most people tend to focus on our Technology & Equipment business. We feel pretty good that we’ve got some good innovations coming along in OraMetrix and our orthodontia business. We like what’s going on in some of our implant businesses. In addition to straight up innovation that’s coming out of our own shop, when you look at buying technologies that we don’t believe we fully deployed, like, things like MIS, we get excited.

We think that there is some real work that we can be doing in our resto business and our Preventive franchises as well. And then, the last issue near and dear to our hearts is endo. And if we look at our track record of innovation over the last decade, it’s been pretty important for us to innovate in endo. And right now, I would tell you that’s a very high priority for us. So, Erin, we’re looking forward to again a very, very fulsome IDS.

Erin Wilson Wright – Credit Suisse Securities (USA) LLC

And how would you characterize U.S. Consumables growth parsing out specialty, as well as general Consumables? And I guess I’m focused here on the U.S., and (00:51:40) that you have visibility on the end market demand trends? Thanks.

Don M. Casey – DENTSPLY SIRONA, Inc.

Yeah. And while we don’t give specific guidance on Consumables in the U.S., I mean, we feel the underlying U.S. business has been pretty good. Again, without quoting direct numbers, we feel our Consumables business is very competitive in the U.S. business. And again, we think that that marketplace has been growing in the mid-single digits, mid to low-single digit numbers. And again, we feel pretty good about how we’re performing in that market, in that area.

Operator

Thank you. And our next question comes from the line of Nathan Rich with Goldman Sachs. Your line is now open.

Nathan Rich – Goldman Sachs & Co. LLC

Thanks for the questions. Don, could you maybe help us think about the major buckets of the $200 million to $225 million of cost savings between head count and some of the other areas. Just think it would help getting that additional visibility as you think about the achievability of those targets?

Don M. Casey – DENTSPLY SIRONA, Inc.

Sure. Actually, I’ll turn it over to Nick.

Nick William Alexos – DENTSPLY SIRONA, Inc.

Yeah. I mean, I would say that the major buckets are obviously some level of head count reductions. Also, there is some rationalization of facilities and program management within that. I would say that they are half between kind of gross margin level expenses and then operating expenses across it. But as Don said earlier, we are looking to rationalize the organizational structure and eliminate some redundancies within the business by having fewer business units within the two segments, and that will increase efficiencies.

Don M. Casey – DENTSPLY SIRONA, Inc.

Yeah. And just to amplify what Nick said, Nathan, is, look, we believe that there is a significant opportunity in terms of the RCO SBU consolidation, some other functional consolidation. So put that in the head count bucket, the second area that we’re excited about is procurement. Again, it’s kind of hard to develop the really effective procurement organization when you’ve got SBUs in countries as the primary management point. So we think there’s significant money there.

And then, in some of the portfolio shaping opportunities, we believe that there are businesses that are non-core and not particularly productive. So I would bucket it head count operational savings. And then, obviously, we’re going to get a fair amount of margin lift in the accelerating growth portfolio or so.

Nathan Rich – Goldman Sachs & Co. LLC

Okay, great. And then, just one on the disruption in Europe on the Consumables side. It looks like it was slightly more than 400 basis points of a headwind this quarter. Can you maybe just talk about the remediation efforts you put in place? And how quickly you think you can kind of get back to that more normalized growth?

Don M. Casey – DENTSPLY SIRONA, Inc.

Yeah. And just for perspective, Venlo is something that we think is important for our ability to serve our customers long-term and it’s a centralized activity. If you think about that particular facility, it services some of our direct – kind of smaller direct-to-doctor businesses; and that went fine as we were transferring a lot of the work we do with our dealers, which tend to be larger orders. Moving in, it was a new technology and new process in place for Venlo.

At this point, we feel pretty good that the Venlo situation is under control. We feel very good that the facility at this point is producing at a level that it should be able to meet any demand that we see currently forecasted in the fourth quarter. And then, Nick and I are actually going to be in Venlo next Tuesday to see for ourselves. But at this point, we feel pretty good that the situation has been remediated.

The other thing that it’s going to be a learning opportunity for the organization, where, okay, how do we – what are the five key things we learn when we’re doing these things. And I think it was an important trial-by-fire that I think will make us better as we really begin to look at doing some other supply chain consolidation.

Nathan Rich – Goldman Sachs & Co. LLC

Makes sense. Thank you.

Operator

Thank you. And our next question comes from the line of Steven Valiquette with Barclays. Your line is now open.

Steven Valiquette – Barclays Capital, Inc.

Thanks. Good afternoon, Don and Nick. Thanks for taking the question. So couple of things to think about here. I guess I’m framing this a little bit differently. The legacy Dentsply company went through a very similar deep dive analysis about five years ago with the strategy to do some major restructuring cost savings that would also lead to a lot of margin expansion. And the company actually did achieve some of that and actually most of that margin expansion from, call it, 2013 to 2015 or 2016 or so.

But I guess the question really is that, given that Dentsply restructuring wasn’t that long ago, first, is more of this restructuring related to legacy Sirona assets versus legacy Dentsply assets, although it doesn’t really seem like it based on the slides? But then, number two, I guess is there still a lot of low-hanging fruit on the legacy Dentsply side of the business given that again this broad restructuring took place not that long ago? And do you run the risk of too much cutting just leading to, let’s call it, unintended consequences on top line growth? Thanks.

Don M. Casey – DENTSPLY SIRONA, Inc.

Yeah. Thanks, Steve, and great question. It’s interesting, one of the things coming in new, I get to read about all the projects, and the legacy Dentsply organization went through a relatively significant restructuring designed to do a much better job of integrating what at that time was six SBUs.

I would say it was reasonably successful, but was about halfway through about the time of the merger. And as such, some of the rationalization work that was targeted and planned on the legacy Dentsply side wasn’t gotten to. And then, all of a sudden, you basically had a company the size of the legacy Dentsply organization on top of the organization that hadn’t necessarily completed the transition it needed to do. So I tend to think that there – if the legacy Dentsply company had another 18, 24 months, I think that they would’ve delivered continued benefit there and it’s benefit we’re looking to get after now. That’s the first point.

The second thing is, we’ve really stopped thinking about the company as kind of legacy Dentsply and legacy Sirona. And it’s really interesting, one of the things that we need to start thinking about is you look at some of our specialty businesses, our Technology & Equipment businesses, there’s cost leverages because we’re calling on the same dentist with 10 different platforms.

And so, in my mind, it’s less about how are we going to carve out savings on one side or the other. But let’s take a customer approach and then let’s look at what’s the best way for us to understand the best relationship we have with that dentist and make sure that we’re approaching it that way.

So in my mind, one of the opportunities of putting the companies together was to create a much broader portfolio that should be of a high degree of relevance to that dentist and deliver it that way and we just haven’t done that. And then, as you think about the cost savings and the reason we say 20% by 2020 and then we say, look, we want to get back to premerger levels and beyond is that we think that there’s a significant amount of supply chain work that we can do. We just don’t want to do that right out of the gate as we’re going through kind of a commercial evolution.

So that’s kind of how we think about it. A long-winded way of saying Dentsply did not get all the low-hanging fruit and that the combination of these two assets, put together, should create other opportunities for us to get after.

Steven Valiquette – Barclays Capital, Inc.

Okay. That’s definitely some helpful color. Thanks.

Operator

Thank you. And our next question comes from the line of Steve Beuchaw with Morgan Stanley. Your line is now open.

Steve Beuchaw – Morgan Stanley & Co. LLC

Well, hi, and thanks for the time here. I want to try to help everybody get maybe a little bit more comfortable with the top line trajectory, maybe come at it a couple different ways. But, first, when I think about the challenges that the company has faced historically, they’re actually pretty different in different regions. We tend to focus a lot on what’s going on in the U.S. But I wonder if you could talk about the balance of improvement that you’re contemplating in the top line trajectory and the extent to which they’re different in the different regions, and the extent to which you think in the different regions, given their different market dynamics, the critical success factors might be more in your control?

Don M. Casey – DENTSPLY SIRONA, Inc.

Yeah, Steve. Let’s take things one at a time. I mean, first, we’ve been relatively consistent over the last nine months talking about the fact that we think developing market should be a good place for us, and we’re going to continue investing in them. I mean, if you look at the growth we’ve been seeing in places like Brazil and China and the model we approach there, so we think that that’s a model that we can continue investing in and replicate.

In terms of the different trajectories in the different parts of the world, look, there are lots of different trajectories. But I would tell you, in my mind, there’s been two things that are consistent across all the regions and the first is, we’ve got to deliver major innovation. And whether it’s major innovation in our Technology & Equipment business that’s going to be relevant in Europe, that is going to be relevant in the U.S.; or whether it’s coming up with new innovation and what we’ve considered like a specialty business like implants or in endo or something like orthodontia. We don’t see a huge difference in the impact that those new products could have across the board.

So in our mind, there is not a regional strategy on, okay, do we need to develop a tailored North American strategy versus a Central Europe versus like emerging market. In our mind is how do we really look at innovation that’s truly relevant across the market around the world. So I realize it might not sync completely up with your thesis there. But in my mind, if we can really get the new products and the pipeline flowing, point one; point two is make sure that we’re consistently excellent in our go-to-market strategy, I think we’re going to be in good shape.

Steve Beuchaw – Morgan Stanley & Co. LLC

And then, just building on the commentary about new products, how much do you think you can improve price and mix trends over the course of the forecast horizon with new product flow? Thanks.

Don M. Casey – DENTSPLY SIRONA, Inc.

Whether we improve it or arrest the decline, it’s – I’ll take those as two sides of the same coin. Look, the innovations that we’re pushing out, we think have the potential to do very, very well in the marketplace. And we’re very conscious of whether they’re going to be margin accretive or dilutive. And one of the reasons that I cited the fact that we need to change our approach to R&D and begin to focus on bigger bets is, look, we need to look across our portfolio and say what’s going to have the best benefit to our top and bottom line at Dentsply Sirona as to what might be the best for our Preventive SBU.

And in doing that, obviously, if there are higher-margin products that are more relevant in areas of the world that we have higher-margin profiles, that’s where we’re going to be able to pick up resources and reallocate them to deliver there. So again, I get very excited about some of the things in our pipeline and the fact that we do think that they are going to really help us on both the top line and margin basis.

Steve Beuchaw – Morgan Stanley & Co. LLC

Okay. Thanks, Don.

Operator

Thank you. And our next question comes from the line of John Kreger with William Blair. Your line is now open.

John C. Kreger – William Blair & Co. LLC

Thanks very much. Don, can you maybe go back to the strategic review you guys did of the market overall, dental market? What did you conclude for longer-term dental market growth? And what did that study conclude in terms of how the market’s evolving, just to give us a sense of what Dentsply needs to do to sort of be able to outpace the market long term? Thanks.

Don M. Casey – DENTSPLY SIRONA, Inc.

Yeah. Thanks for the question, John. I would tell you, we break it up in kind of Consumables and Technology & Equipment. We think that there are positives in the Consumables business that are offsetting some of what you may think about consolidation, whether it’s in the DSO’s or some of the pricing compression. So we believe that the Consumables business is kind of a 2% to 4% relatively consistent. And again, there is positives in new products and other things that will offset what we consider, like consolidating related pressure.

On the T&E business, again, we really look at this year, and the largest market, there was a significant anomaly at the wholesale level, where we saw tremendous amount of inventory destocking. Again, I hope you hear that we were pretty happy with how the third quarter T&E business was performing. And we think that’s indicative of we’ve got a good portfolio of products in T&E, whether that’s CAD/CAM or whether that’s being more competitive in DI or instruments or other areas.

We believe that business should be a 4% to 6% or potentially higher grower depending on where we are in new product. So on an aggregate basis, we really look at the combined business sitting around 3% to 5%. And we said, both in our transcript and I believe in the press release, that we believe we ought to be able to track that market, if not outpace it. It’s clearly our objective to outpace it.

John C. Kreger – William Blair & Co. LLC

Okay. Thanks. And maybe a follow-up, Nick, for you. What is your thinking about destocking at this point? Are we done? As you think to 2019 and beyond, is the inventory in the channel appropriate? Or do we need to be thinking about more of that in 2019?

Nick William Alexos – DENTSPLY SIRONA, Inc.

Yeah. The short answer, John, is that our expectation is that this will be a good year to get the level of inventory in the channel to where demand at a retail level corresponds with demand at the wholesale level. So it’s obviously a significant reduction this year. $110 million to $115 million, and that’s been trending pretty well. So we feel pretty good about getting this behind us.

John C. Kreger – William Blair & Co. LLC

Okay. Thank you.

Don M. Casey – DENTSPLY SIRONA, Inc.

Thanks, John.

Operator

Thank you. And our next question comes from the line of Yi Chen with H.C. Wainwright. Your line is now open.

Yi Chen – H.C. Wainwright & Co.

Hi, sorry for that. Thank you for taking the question. So my question essentially relates to the revenue growth. What do you see in revenue growth essentially reversing?

Nick William Alexos – DENTSPLY SIRONA, Inc.

Well, Yi, the answer to that – I mean obviously, as we said, the dealer destocking will help us certainly with revenue growth going into next year on the Technologies & Equipment side. And on the Consumables side, we believe the Venlo issue as certainly getting behind us and we’ll be able to see a positive growth on the Consumables side as well. So, clearly, the expectation is positive revenue growth into next year.

Yi Chen – H.C. Wainwright & Co.

Perfect. Thank you so much for that.

Nick William Alexos – DENTSPLY SIRONA, Inc.

Sure.

Operator

Thank you. And I’m not showing any further questions at this time. I would now like to turn the call back over to Don for any closing remarks.

Don M. Casey – DENTSPLY SIRONA, Inc.

Okay. Well, first, we appreciate that we went a little bit long today. But, obviously, we had a lot to talk about. So thank you for your time, and we look forward to reporting back as time moves on. And again, we mentioned in our transcript, at this point, we are not planning on doing a Investor Day at this point. So, again, hope everyone has a good evening and we appreciate the time you spent with us. Thank you very much.

Nick William Alexos – DENTSPLY SIRONA, Inc.

Thank you all. Bye.

Operator

Thank you. Ladies and gentlemen, thank you for participating in today’s conference. This concludes today’s program, and you may all disconnect. Everyone, have a wonderful day.

HANOI (Reuters) – Vietnam wants 50 percent of its social media customers to use domestic social networks by 2020 and plans to prevent “toxic information” on Facebook and Google, the information ministry said in a statement on Thursday.

The ministry has been drafting a code of conduct for the internet to “build a healthy and safe network environment”.

“We are also conducting research into measures which would prevent negative and toxic information on two foreign platforms, Facebook and Google,” the ministry said in its statement.

Despite sweeping economic reforms and growing openness to social change, Vietnam’s ruling Communist Party tolerates little dissent and exercises strict controls over media.

Last week, the government released a long-waited draft decree on guidelines to implement a cybersecurity law that global technology companies and rights groups have said could undermine development and stifle innovation.

Both Facebook and Google, both of which are widely used in Vietnam and serve as the main platforms for dissidents, do not have local offices or local data storage facilities and have objected to the localization requirements of the law.

In September, Minister of Information Nguyen Manh Hung said Vietnam should promote home-grown social media networks to compete with the likes of Facebook and capture more of the market.

Thursday’s statement said three Vietnamese firms would be assigned the task of increasing the market share to 50 percent: a messaging app called Zalo, owned by VNG Corp, a video-sharing platform called Mocha, and an online publisher, VCCorp, which runs several news and e-commerce websites.

Zalo is Vietnam’s premier chatting platform, with more than 100 million users, but Mocha and VCCorp struggle to match the massive popularity of Google’s YouTube, and Facebook.

It may not have been the tsunami some expected, but the Democrat’s long-promised blue wave was enough to carry the party to a majority in the House of Representatives on Tuesday. The Senate, meanwhile, remained firmly in Republican hands.

With control of the House, Democrats will be able to fulfill their promise to be a check on the Trump administration these next two years. And yet, the power split in the two chambers of Congress could make it harder than it already was to pass new legislation—even legislation with bipartisan backing. For the tech industry, that’s both good news and bad news.

The good news: As House Democrats spar with the Republicans in the Senate, the last thing either party will want to do is hand the other side a win. That means that until 2020, it will be much more difficult for Big Tech’s critics on Capitol Hill to push through much-threatened regulations on the industry’s ads or its monopolistic business practices.

The bad news: There are some regulations that the industry desperately wants to pass, namely, a federal privacy bill that would preempt a much tougher bill in California, set to go into effect in 2020. Tech giants and industry groups like the Internet Association have been lobbying hard for a federal bill, and senators on both sides of the aisle have expressed support for some federal legislation. It’s unclear at this stage whether a Democratic House would let President Trump be the one to sign off on such a historic law.

The tech industry also faces a notably less cozy environment in the Senate after Tuesday night. Marsha Blackburn, for one, won her race in Tennessee. As a House representative, Blackburn battled tech giants at nearly every turn. Backed by the telecom industry, she opposed net neutrality protections and voted to overturn an Obama-era rule that would have required broadband providers to get people’s permission before selling their browsing data. On the campaign trail, she took every opportunity to criticize the tech industry for alleged liberal bias. That’s been a rallying cry in the House that Blackburn may well amplify in the Senate.

If she does, she’ll have a friend in Senator Ted Cruz. The Texas senator defended his seat against Democratic insurgent Beto O’Rourke, whose campaign was heavily financed by the tech industry. Like Blackburn, Cruz has seized on the opportunity to accuse tech giants of partisan censorship and recently skewered Google over its experiments in building a censored search engine for China.

Former Missouri attorney general Josh Hawley, meanwhile, will replace Democrat Claire McCaskill in the Senate. Hawley, a Republican, took a tough stance on tech as attorney general, opening separate investigations into Google, Facebook, Uber, and Equifax over anti-trust and data privacy issues.

Tuesday’s race also alters the dynamics of the congressional committees tasked with holding these companies accountable. Senator Bill Nelson of Florida lost his re-election to governor Rick Scott on Tuesday. That means Nelson’s role as ranking member of the Senate Commerce Committee will likely fall to someone like Minnesota’s Amy Klobuchar or Connecticut’s Richard Blumenthal, both of whom have voted to crack down on the tech industry.

But the biggest shift will undoubtedly come in the House, where Democrats will take over control of the House Intelligence Committee, which was tasked with investigating foreign interference in American elections. Current ranking member Adam Schiff would likely take on the role of chair. He’s vowed to pick the Russia investigation back up. Given the continued covert actions taken by Russia on social media platforms, such a probe could land Facebook, Google, and Twitter back in the hot seat.

These new dynamics may not last long. In two years, Democrats will have to defend the House seats they won all over again. Thanks to a congressional map that’s been gerrymandered to favor Republicans in states across the country, that won’t be easy. On Tuesday, Democrats carved out a win by relying on states like Pennsylvania, where a badly gerrymandered map was recently replaced by a court-ordered one. And yet, the midterm elections also yielded wins for Democrats that could change the playing field in 2020 and beyond. A ballot initiative in Florida restored voting rights to more than 1 million former felons, who will now be eligible to vote in 2020. And anti-gerrymandering proposals passed in Colorado, Michigan, and Missouri, which would take redistricting power away from a single party and scuttle the maps all over again after 2020.

By the early hours of Wednesday morning, both Democrats and Republicans were claiming a victory. Time will tell if tech’s most powerful companies can do the same.

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It wasn’t great. Alibaba’s (BABA) calendar third quarter earnings release saw revenues miss consensus while non-GAAP earnings had a strong beat. In addition, the fiscal year revenue forecast was reduced. It still remains to be seen whether or not a near-term slowdown in growth due to regional expansion will reap dividends in the future.

Below are some key points from the earnings release and subsequent analyst call.

Headline results

Revenues of $12.4bn missed Wall Street’s consensus of $12.54bn in what was a rare miss for Alibaba. And while the trend of revenues looks to be exponential, it’s worth remembering that there have been several large subsidiaries added to revenues from income from equity investees, such as Eleme, Koubei and Cainiao.

Revenue breakdown. Units: RMB billions. Source: Alibaba investor relations

To compound this disappointment further, it’s the first time in three years that the firm has missed analysts’ expectations on revenues.

Earnings and revenue surprise. Source: Alibaba investors relations and Seeking Alpha

As for earnings, $1.40 this quarter was well ahead of the $1.07 consensus, but it should be noted that earnings growth is slowing. The ramp up in growth seen during 2016 and 2017 has been followed by a slowing during 2018. This has been caused by slowing revenue growth and operating expenses that have been larger than before.

Rolling sum of the most recent four quarters of non-GAAP diluted EPS, and the quarterly growth rate. Units: RMB. Source: Alibaba investor relations

Expanding China commerce into less-developed areas

A key point from the prepared statements of CEO Daniel Zhang is that the Taobao business is expanding further into rural China; something that has been going on for a while but likely accelerated by the rapid growth of Pinduoduo (PDD). In the most recent quarter, 75% of new Taobao customers came from these regions.

China retail commerce revenues. Units: RMB billions. Source: Alibaba investor relations

On the one hand, it’s an important move for Alibaba. I don’t believe it can successfully expand its ecommerce platforms overseas, such is the dominance of Amazon (AMZN) and because Chinese firms have a long history of being strategically trapped within their borders. A quick look at Baidu’s (BIDU) expansion into Japan, Egypt or Brazil tells a common story. Therefore, by targeting new customers in China, it is a new revenue source.

However, there’s an issue with this strategy because, as we’ve seen with Pinduoduo, these consumers have low annual spending on ecommerce platforms. Pinduoduo’s annual spend per active customer is around 10% of JD.com’s (JD). I believe that this has been a cause of the slowing revenue – particularly from China commerce – and the growing expenses, which have led to slower earnings growth. While not disclosed any more, I believe the effect is best seen in the firm’s monetization rate, i.e. the revenue generated from the average user’s transactions, which would be seeing slowing growth.

Expectations for Singles’ Day

I want to highlight an interesting relationship between Alibaba’s calendar third quarter China commerce revenues and Singles’ Day sales. Logically, it would make sense that lower-than-expected China commerce revenues in the third quarter would be due to consumers delaying purchases ahead of the big Singles’ Day sales event on November 11. Why buy in September when you can get a 30/40/50+% discount in November? In other words, there should be a negative correlation between China commerce revenues and Singles’ Day sales.

However, that doesn’t seem to be the case. In fact, the correlation is positive. The growth of China commerce revenues in Q3 is similar to the growth of Singles’ Day transactions. This is a disappointing sign for those – including myself – expecting a blowout Singles’ Day because a slowdown in annual Q3 revenue growth usually leads to a slowdown in Singles’ Day growth.

Calendar third quarter China commerce revenues and their growth, as well as the year-on-year growth in Singles’ Day transactions. Units: RMB millions. Source: Alibaba investor relations.

November 11 will be the day to see whether this trend holds.

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Readers can find my other calendar Q3 earnings previews and reviews of Chinese firms, asset managers and investment banks here.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

BRUSSELS (Reuters) – EU governments are divided over a plan to tax big internet firms like Google and Facebook on their turnover, fearing retaliation from the United States, and could delay its application until a global deal is reached, top officials said on Tuesday.

Under a proposal from the EU’s executive Commission in March, EU states would charge a 3 percent levy on the digital revenues of large firms that are accused of averting tax by routing their profits to the bloc’s low-tax states.

But the plan, which requires the support of all 28 EU states, is opposed by a large number of them.

The Commission’s effort to come up with a system to ensure internet companies pay adequate tax has been running in parallel with a study of the subject by the Organisation for Economic Cooperation and Development seeking a multi-lateral approach.

“It is very difficult to see an agreement on the digital tax because so many technical issues are not solved yet,” Danish Finance Minister, Kristian Jensen, told reporters on the sidelines of a meeting of EU finance ministers.

He added that the proposed EU tax was devised in a way that would hit mostly U.S. companies and therefore it would attract U.S. retaliation. “Of course there will be a reaction from the U.S.” he said, calling the tax “not a good idea for Europe”.

His remarks echoed comments made by diplomats from several EU states, including Germany, Sweden, Ireland and Malta, in a meeting last week, according to EU officials.

France, which has long been the main supporter of the tax, proposed in September a sunset clause, as a step to convince reluctant states. It suggested on Tuesday that it could support allowing more time to implement a new tax system, so that the OECD can finish its analysis.

“There must be the adoption of a directive on digital taxation by the end of this year,” Finance Minister Bruno Le Maire said, using the term for EU laws.

“There will be the question of implementation of the directive. We are open on that question, because we know there is work done by the OECD,” he said.

EU states are discussing two options put on the table by the European Commission. The most ambitious plan would entail a tax on the turnover of digital firms imposed unilaterally by the EU before a deal is reached at global level.

This approach is opposed by several countries, including small ones like Ireland where many tech firms book profits on sales in bigger EU countries.

The second option, which has so far been sidelined, would revise the tax rules so that levies could be imposed on companies based on their “digital presence” in a state. This option would take longer to be applied and would be in line with work at OECD level.

“We hope we can have a unanimous decision that will go down the OECD road,” Jensen said.

Overview

Despite the ludicrous earnings-driven selloff, Centaur Investments firmly maintains a “Buy” opinion and $15 price target on shares of YRC Worldwide, Inc. (YRCW). The motivation for this opinion comes from our view that analysts’ rosy estimates (including our own) were perhaps far too unrealistic going into the quarter. In other words, the company didn’t miss analyst estimates. On the contrary, industry analysts missed the entire picture by failing to demonstrate sound judgment when making their projections for the quarter. This was a categorical error and we explain our reasoning here in this article.

We continue to like management’s specific emphasis on yield improvement over revenue maximization. In an environment where many carriers are scrambling to push freight across increasingly tight networks, YRC continues to focus on profit-maximizing shipments over tonnage. This strategy has consistently proven to be adequate as the company ramps up on revenue equipment replacement and modern technology deployment.

We expect the selloff in YRC’s shares to abate and eventually reverse as soon as market participants have had enough time to digest the whopping $31M in proceeds ($29M gain) from the sale of two docks located in Harrisburg Pennsylvania. According to CFO Stephanie Fisher, the deal closed just this week and will hit operating income in Q4. During the Q2 2018 conference call, management did note that these two docks had a pending sale as a result of network enhancements implemented in Q4 2017.

As A Note to the Reader: This article will dig into the company’s progress since we last shared our opinion on the company. All pictures, data, and information cited throughout the article may be found in the company’s quarterly and annual filings, company presentations, and conference call transcripts.

Source: yrcw.com

Centaur Investments’ Notes On YRC’s Q3 Earnings

In Q3, YRC Worldwide posted a modest revenue beat but disappointing earnings of $0.09, compared to a range from analyst targets of $0.51 to $0.60. The results were in line with Q3 2017 but down sequentially. Long-term debt continued to trend lower and ended the quarter at $836M including equipment leases. Liquidity was higher with cash and equivalents approaching $200M. In our opinion, these were overall pretty good numbers. Total revenue sustained the recent trend of roughly 4-5% in year-on-year growth.

Revenue equipment replenishment was at $32.2M, and capital expenditures were at $45.9M, for a total reinvestment of $78.1M. A significant increase of $30.3M or 63.4% over Q3 2017 capital reinvestment. Year-to-date, the company has taken delivery of 1,000 new tractors and 2,300 new trailers. The company expects to add an additional 300 new tractors and 1,500 new trailers by year end.

Management noted that the reinvestment is translating directly to the bottom line, despite analyst skepticism. We will discuss a little more about analyst sentiment in a later section. The new equipment helps reduce maintenance and fuel expenses, as well as equipment rental expenses, and is a key reason why we didn’t pay too much attention to the earnings miss.

In the end, it was ~$13.9M in one-time nonrecurring charges which caused the big earnings miss.

Source: Centaur Investments (E=Estimate, A=Actual)

The big earnings miss was due to a nonrecurring $5.5M liability charge, $7.2M pension settlement charge, and $1.2M loss on equipment disposals. Combined, the surprise impact on net income totaled $13.9M. Taking the $2.9M in net earnings and adding back in these one-time charges, non-GAAP adjusted net income came in at $16.7M, for about $0.51 in non-GAAP adjusted earnings per share. This falls near the bottom range of analyst earnings estimates and is very close to Centaur’s estimate of $0.55 in fully-diluted earnings.

Investors should have expected the $7.2M in pension settlement charges disclosed in September’s preliminary update. Both nonrecurring $1.9M loss on property disposal and $5.5M liability charge were a bit of a surprise, despite no significant weather-related impact found in the report. Additionally, management did not note anything significant regarding Hurricane Florence or any other weather-related impact during the conference call.

Most notably, operating cash flow, adjusted non-GAAP earnings per share, and both EBITDA and non-GAAP EBITDA remained on a solid trajectory. Non-GAAP adjusted EBITDA totaled $84.2M and was ~3.4% higher than the $81.4M reported for the same period last year. For the trailing twelve months adjusted EBITDA is trending 5.8% higher. Additionally, the company now trades at just 3.7x EV to adjusted EBITDA, 0.21x EV to sales, and 0.04x price to sales. An insanely cheap valuation by all measures.

Relating back to the $31M windfall set to hit operating income in Q4, our income statement model assumed the sale would close during Q3 but included only a modest $2.5M gain. However, as Fisher noted on the call, the full dollar amount will be included as part of operating income in their Q4 and full-year reports.

The income statement below shows how close Centaur’s model came to actual results.

Source: Centaur Investments (E=Estimate, A=Actual)

A Recap of Centaur’s Long Thesis for YRC Worldwide

One thing implied in September’s article was that the company was on the brink of turning a corner on profitability, with margin improvement and earnings growth. This was ‘implied’ because the thesis initially did not lay out a timeline and focused almost entirely on the Q3 earnings report. Additionally, the analysis incorrectly assumed analyst comps would be easy to beat due to weather-related impact during the same quarter last year. Instead, analyst anticipated this and set unreasonably high earnings projections despite historical earnings sensitivity to one-time charges.

To recap the six key factors presented as part of the long thesis in September’s article, these key factors are summarized for the reader below.

1. Favorable pricing environment will continue to generate solid revenue growth.
2. Management’s focus on yield improvement over revenue maximization will drive profitability.
3. Deployment of modern technology will drive margin growth through network optimization.
4. Accelerated revenue equipment replacements will derive efficiency benefits and improve operating performance.
5. Eventual phase out of long-term equipment rentals will show immediate improvement in operating expenses and operating ratio.
6. Progress on Teamsters Union labor agreement would eliminate substantial risks weighing on the company’s shares.

To specify, the timetable for investors to start taking notice of these factors is generally over the next year, as the pickup and delivery tech gets rolled out across larger facilities and distribution centers. Over the next two to three years, assuming a strong freight pricing environment, the tractor replacements should start to positively impact profitability as the cost of maintenance and fuel is driven lower. Again, management has noted that new tractors bring in an immediate 15% cost reduction.

Source: TradingView.com

The Categorical Error in Analyst Estimates For YRCW

Before explaining the categorical error in analyst estimates for the quarter, it is important to outline the known information. The idea here is that by understanding where the company is positioned today, analysts can reduce the likelihood and frequency of errors in future estimates for the company.

First and foremost, let’s began with a list of known information which should not come as a surprise to anyone. At least, anyone who has followed the company at some point in the last 10 years. This list comes in the most directly transparent way possible for readers to really visualize the bigger picture.

1. The success of the company is dependent upon cooperation with the Teamsters Labor Union, as both parties face a deadline to renew their labor agreement by March 31, 2019.
2. With 30,000+ employees, a bit of back of the envelope game theory analysis should conclude that both union workers and company management are well-aware of what’s at stake and will find common ground.
3. The company’s fleet of ~14,000 tractors and ~45,000 trailers is much older than their publicly traded competitors.
4. The company started replenishing their fleet in 2015 and in 2018 is merely 25% to 30% deployed on their fleet replenishment plan.
5. Most of the company’s operations must work with legacy warehouse and transportation management technology to meet analyst expectations.
6. The company started deploying Optym, Quintiq pickup and delivery systems across their network and has installed the technology at 100 out of 384 facilities, that’s less than 1/3.
7. The technology has to be customized for each terminal and distribution center, so deployment in slower than the typical out of box on-premise installation.
8. In the near term, management is choosing to invest excess cash to accelerate both fleet replenishment and technology deployment rather than post record profits.
9. Market participants are myopic by nature and are difficult to please as they tend to have exceedingly lofty expectations for the company.
10. Short sellers and intraday traders are the enemy of C-level executives, and many speculators still mistakenly assume the company faces insolvency risks.

With these facts now out of the way, this opens the door to discuss the categorical error in analyst estimates. To start off, anyone who listened to the Q3 conference call may have noticed that analysts were quick to point out the obvious. That is, they all brought up at least one of the points just listed above, despite being industry experts and long-time followers of the company.

Under this rationalization, one can draw two conclusions. First, analysts do not seem to be rationalizing the facts they already know about the company and as a result consistently fail to demonstrate sound judgment when projecting earnings for this company. Second, both speculators and investors pay close attention and react to the tone set by analysts during these conference calls. By asking unreasonable questions, they’re not only wasting their time, they’re putting management in a position where anything they say (or don’t say) risks communicating the wrong message.

One thing analysts could do better is to simplify the logic of their questions and leave out their attempts for rationalization. For instance, rather than point out the age or fuel economy of the fleet, one might simply ask how much progress was made on fleet replenishment and/or technology deployment during the quarter. Any prior information could be easily determined by replaying older conference calls or using the quick search function on transcripts and 10Qs/Ks.

This point falls in line with the concerns of Tesla Inc. (TSLA) CEO Elon Musk, and growing number of CEOs who have been actively fighting back short sellers and intraday speculators. Not to side with any of these executives or go as far as suggest Tesla is a great investment. Rather, their side of the story makes it understandable why they feel so compelled to fight back against the negative sentiment.

Some Thoughts On YRCW’s Earnings-driven Selloff

Navigating social media sites like Twitter (TWTR), StockTwits, and other message boards, it becomes clear that intraday traders or “swing traders” have identified this company as a volume mover following earnings announcements. The volume spike in the year to date stock chart above speaks for itself. Additionally, some speculators have formed a pattern around cyclical periods for the company. It may well be that this activity has led to increased volatility in the shares.

An accurate representation of this can be determined from a comment left in this article by a reader on the night before the company reported earnings. While the reader was correct in his prediction, many other short-term speculative traders shared this view. It was hardly an analysis or valuation of the company at all. Rather, a guess as to what side momentum would be exhibited following the earnings announcement.

Though this trader should be congratulated for his accurate and profitable prediction, it should also serve as a warning for long-term investors about paying too much attention to intraday trends. As trading volume starts to pick up, other traders want in on to the action and enter similar trades. For existing shareholders, these price swings could be enough to entice panic and forced selling, very often leading to an exaggerated price move.

Investors and traders have mentioned another reason for the share price decline, the notion that the company has failed to demonstrate superior performance, despite operating in one of the strongest freight environments in over a decade. While this is a genuine question to ask, and it partially explains why some analysts consistently get earnings projections wrong, this question demonstrates disregard for the facts.

How does one expect to see the company outperform peers who did not face the same challenges ten years ago? Indeed, most industry peers are operating with far more efficient fleets. This is one of the known facts outlined earlier. Yet some still question why YRC’s earnings are missing higher marks.

Similarly, some less experienced investors tend to associate the company with insolvency risk. The company has managed their liquidity responsibly and paid down their debt to manageable levels. Equipment leases now account for most of the long-term debt on the company’s balance sheet. It seems highly irrational to assume that the company is moving on a path towards financial trouble.

A worst-case scenario would be a dramatic drop in the freight environment, such as the one which started in late 2007. In such an event, YRC would have enough liquidity on hand to pay down long-term debt. Additionally, as mentioned in September’s article, with the company now operating a much more flexible fleet, in a case like this, management could reduce the size of the fleet as the leases come up for renewal. Leaving the company in a far more manageable position than it was when it entered the financial crisis ten years ago.

The Flaws in Seemingly Perpetual Negative Investor Sentiment Towards YRC Worldwide

Centaur initially found the company a compelling opportunity due to the increasingly negative investor sentiment towards the shares, as speculators find every opportunity to sell or short shares and often refer to the company as a “POS” on social media. We looked at the company, broke it apart, and combed through historical financial statements and determined that there was a whole lot more value to be created.

With a fleet replenishment plan in place and modern technology being phased in, no value is being destroyed despite the market’s punishing behavior. This negative sentiment seems to be driven by the company’s performance relative to aggressive analyst targets, and the aftermath of missing those targets. Blaming mismanagement or the company’s older fleet is a categorically flawed observation.

There are other good points to make here. In the past, the company’s operations have proven increasingly sensitive to small one-time charges such as insurance claims and weather-related events. Even with the company constrained due to limitations imposed on by restrictive debt covenants, it is not at risk of insolvency as many speculators appear to see. Additionally, the highly restrictive debt covenants may have actually been a good thing for the company.

For instance, the company has avoided taking on dangerous levels of debt. In fact, the opposite has been true. They actually consolidated and paid down most of their long-term debt during a period where interest rates were at historical lows. Incidentally, the incentives for borrowing heavily to fund aggressive expansions or share repurchases had never been higher. In YRC’s case, the company has been literally forced to optimally reallocate the cash flows the business has generated. A dream for the value investor.

This has dramatically lengthened the time it would take to achieve more competitive margins and earnings. Nonetheless, management has achieved to pay off debt and gradually introduce new technology and equipment through optimal allocation. Using Tesla as the opposite example, many companies are unconstrained by these limitations and have found it easy to issue additional equity or debt to finance their expansions. Others have forgone value creation and elected to waste tax benefits by funding share repurchases instead.

With sentiment and categorical errors now addressed, let’s move on to the valuation segment. In this next section, we introduce an updated version of the discounted cash flow model we have been using to approximate the intrinsic value of YRC’s equity.

Fair Valuation and Price Target for YRC Worldwide Inc.

Source: Centaur Investments

With Q3 free cash flow remaining in line with our projections, the revision applied to the model from September was minimal. The change involved updating the model with the latest risk-free rate of return from 2.9% to 3.2%. The discount rate ticked down by one-tenth of a percent, producing an equity valuation estimate of $487M, up from $479M in September’s model. The target price per share remained unchanged at $15 due to rounding. The main takeaway here is that if our analysis proves correct, investors could reap a +140% return from buying the shares at the currently discounted price of $6.04 which was quoted at market close on November 2.

As a caution, investors should be aware of YRC’s CFO comments during the Q3 conference call and should expect to see an additional non-union pension settlement charge in Q4 ranging from $3M to $7M. These charges will be largely offset by approximately $31 million in net cash proceeds which will reflect in Q4 operating income and adjusted EBITDA. The expected net gain from the property sale is approximately $29 million. These projections indicate that the full year results should remain within the assumptions of our model presented above.

Closing Remarks: Where This Ship Is Headed…

Some investors often use the expression of “righting the ship,” to describe turnaround stories. Using a similar analogy, we see YRCW not as a sinking ship but rather, a ship moving along a slow current. With the slow and steady pace of reinvestment, it will take some time to show before investors and analysts start seeing those larger impacts on margin they’re so anxiously waiting to see.

In our opinion, YRC may be a strong case for a buy and hold investment. Until investors come to this realization and shake off their exceedingly lofty expectations, YRCW’s shares will continue to be vulnerable to violent swings due to intraday speculative action. Investors should take advantage of market fluctuations and stand prepared to buy shares during dramatic selling events like the one this week. Ideally, this would limit speculative short selling and stabilize the volatile share price.

If management remains disciplined and ignores the demands of intraday speculative traders, YRC has the potential to overtake a lot of their industry competitors. This could go about if faster growing competitors experience early pain from making the same mistakes predecessor Yellow Corporation made nearly twenty years ago under the command of former CEO, William D. Zollars. The slimmer and more strategically disciplined YRC, would find itself in the right position to take advantage and capture additional market share.

For a notable example of careless expansions, one could look no further than XPO Logistics Inc. (XPO). XPO’s Chief Executive, Bradley “Brad” Jacobs, has developed a cult-like following for his bold acquisitions. Now XPO investors are left wondering when Brad will be closing in on the $8 billion in acquisitions he planned for 2018. Unarguably though, XPO’s freight brokerage operations have helped the company achieve record growth year to date.

Additionally, as ecommerce continues to gain over traditional brick and mortar, large competitors like United Parcel (UPS) and FedEx Corp. (FDX) continue to struggle with tight capacity, timely delivery, and expansion challenges. In the long run, YRCW has the potential to expand last mile delivery, and tap into ground shipping markets by introducing less capital-intensive revenue equipment such as medium-duty straight/box style trucks and light-duty delivery vans.

In closing, we remind readers of the six points in Centaur’s long thesis which offers a more positive take on the company. We like the level of discipline and focus YRCW’s management is demonstrating. Many management teams lack this ability, especially in dynamic high-frequency trading environments like those today. Investors and speculators alike have a tendency to forget what an equity share represents; an ownership stake in a physically operating business.

With this closing argument, we stand by our previously disclosed cash flow model, valuation, and price target for the company. We hold a contrarian take on the increasingly negative investor sentiment towards the company and overall shares of truckload and less-than-truckload carriers. As industry capacity remains tight with strong demand for heavy-duty class 8 trucks, and beset by driver shortages, there may be continued pricing strength in freight markets to boost the sector higher. As one of the most oversold companies in the sector, YRC Worldwide seems poised to see the biggest return over the next twelve months.

Given the company’s appealing current market valuation, and variety of factors outlined in this article, Centaur Investments continues to hold a “buy” opinion on shares of YRC Worldwide Inc., and maintains the previously disclosed $15 price target. As the company closes in on negotiations with the Teamsters Union, we expect for the market to react favorably to any news of improving agreement ratification probability. In the meantime, we will continue to monitor company filings and industry developments and update YRCW’s valuation as additional information becomes available.

Disclaimer: As always, past performance is not an indicator of future performance. This post is illustrative and educational and is not a specific offer of products or services. Information in this article is not an offer to buy or sell, or a solicitation of any offer to buy or sell the securities mentioned herein. Information presented is believed to be factual and up-to-date, but I/We do not guarantee its accuracy and it should not be regarded as a complete analysis of the subjects discussed. All expressions of opinion reflect the judgment of the authors as of the date of publication and are subject to change. Please conduct your own due diligence prior to investing in any of the securities mentioned in this article.

Disclosure: I am/we are long YRCW.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Below is a list of the best performing S&P 500 stocks on their earnings reaction days so far this season. Under Armour (NYSE:UAA) (NYSE:UA) ranks at the very top of the list with a huge one-day gain of 27.71% after it reported a triple play on October 30th. (A triple play is a company that beats EPS estimates, beats revenue estimates, and raises guidance.)

Vulcan Materials (NYSE:VMC) ranks second with a gain of 17.49%, followed by Akamai Tech (NASDAQ:AKAM), Newfield Exploration (NYSE:NFX), and Twitter (NYSE:TWTR). Other notables on the list of big winners this earnings season include International Paper (NYSE:IP), Ford (NYSE:F), PayPal (NASDAQ:PYPL), Church & Dwight (NYSE:CHD), Starbucks (NASDAQ:SBUX), General Motors (NYSE:GM), Procter & Gamble (NYSE:PG), DowDuPont (NYSE:DWDP), and Whirlpool (NYSE:WHR). These certainly aren’t your typical high-fliers!

On the downside, Mohawk (NYSE:MHK) has been the worst performer this earnings season with a one-day decline of 23.86% after it reported a reverse triple play on October 25th. The stock missed EPS estimates, missed revenue estimates, and lowered guidance.

Align Technology (NASDAQ:ALGN) ranks second worst with a one-day decline of 20.2%, followed by Western Digital (NYSE:WDC), Advanced Micro (NASDAQ:AMD), and United Rentals (NYSE:URI). Other notables on the list of losers include Equifax (NYSE:EFX), Fortinet (NASDAQ:FTNT) (not to be confused with the video game Fortnite!), Fortune Brands (NYSE:FBHS), Kraft Heinz (NASDAQ:KHC), Kellogg (NYSE:K), General Electric (NYSE:GE), AT&T (NYSE:T), and Amazon (NASDAQ:AMZN).

Being sad can make you more creative

Sadness elevates motivation

Your lows help you appreciate the highs

Your happiness will probably return

The US dollar fell against all major pairs on Thursday. The greenback had touched 16-month highs on Wednesday but could not hold on to those gains amid positive Brexit news and solid trade data in Australia, combined with investors taking profit in their long dollar positions. The release of the U.S. non farm payrolls (NFP) report on Friday, November 2, at 8:30 A.M. EDT could turn the tide for the dollar, but investors looking beyond this week will take into consideration political risk as the US midterms take place on Tuesday, November 6.

The US dollar lost its appeal as a safe haven as President Donald Trump tweeted about having a good talk with Chinese leader Xi Jinping. The two will meet in Buenos Aires ahead of the G20 summit, with trade a big topic under discussion.

• US forecasted to have added 200,000 jobs in October
• US earnings to remain upward trend at 0.2 percent gain
• Canadian jobs to show 12,000 gains in October

Dollar on Back Foot Ahead of Jobs Report

The EUR/USD rose 0.90 percent on Thursday. The single currency is trading at 1.1412 after the US dollar hit a brick wall after on its way to a 17-month high. The scenario of a US economy overperforming in trade war risk aversion gave strength to the dollar, but the script has changed with the US dollar on the back foot as the major upcoming risk event are the US midterms, with investors limiting their dollar exposure while positive indicators have appeared abroad.

The euro rebounded against the greenback with an eye on the US jobs report on Friday. Employment has been a strong pillar of growth and supported the view of the Fed to keep tightening monetary policy. The upcoming October data will not change that, but it will have to be exceptional to change the view of the market on perceived political risk out of Washington.

Europe is no stranger to political risk as it battles on two fronts. The Italian budget dilemma continues after the European Union rejected the proposal of a member for the first time and gave Italy three weeks to make a list of changes. Italian politicians are digging their heels as Brussels and Rome head for tough negotiations.

Sterling Surges on Brexit Hope and Dollar Softness

The GBP/USD gained 1.96 percent. The currency pair is trading at 1.30 after reports of a financial services agreement between the EU and the UK made the rounds. Officials from both sides denied there being an actual agreement, although the matter, as anything Brexit-related, has been discussed for months. While it was deemed as speculation, the fact remains that it was also not denied which was good enough for the market pricing in further pound strength.

The various comments, both official and unofficial, point to a deal being close. As always with Brexit rhetoric, there have been few details disclosed. There is optimism on both sides, although the team in Brussels is more cautious.

As part of its “Super Thursday,” the Bank of England (BoE) Governor Mark Carney had a neutral rhetoric about the Brexit outcome, saying the central bank is ready to do what it must in either outcome. He did comment that the hard exit is an unlikely scenario and is confident about the levels of preparations done by the financial services industry ahead of the imminent divorce.

Gold Retakes Safe Haven Crown from Dollar

Gold rose 1.64 percent on Thursday after trade fears eased, sapping the attraction of the US dollar as a safe haven. The upcoming US midterms are the next major risk event and investors are limiting their exposures to the US currency.

The US economy has been a solid performer this year and the U.S. Federal Reserve has moved towards rate normalization with three rate hikes in 2018. Another rate hike is expected at the December Federal Open Market Committee (FOMC) meeting, if economic indicators remain strong.

Gold has reclaimed a seat at the safe haven table after a difficult start of the year. Demand for the metal has risen from retail investors and central banks keeping prices above $1,230.

**Oil Free falls on Oversupply Fears **

Oil prices tumbled on Thursday as the market is anxious about oversupply ahead of the start of Iran sanctions. Organization of the Petroleum Exporting Countries (OPEC) and other major producers appear to have gotten the message from US President Donald Trump and increased production, but there are still questions on how much will the sanctions actually impact Iranian exports.

Iran’s biggest customers have bowed down to US pressure and might still work out exemptions or try to exploit loopholes to keep purchasing crude from its long time supplier.

There are reports that India was able to get US sanctions waivers in exchange from reducing its Iranian imports by 35 percent.

Market events to watch this week:

Friday, November 2

8:30 A.M. CAD Employment Change
8:30 A.M. CAD Trade Balance
8:30 A.M. CAD Unemployment Rate
8:30 A.M. USD Average Hourly Earnings m/m
8:30 A.M. USD Non-Farm Employment Change
8:30 A.M. USD Unemployment Rate

*All times EDT

Introduction

Adobe Systems Inc. (NASDAQ:ADBE) has produced some amazing financial results during the last 3 years (2015 to 2017). 2018 is looking to be a record year for the company. Even if the stock is currently selling at a Price-Earnings ratio above 50, I think the company is still a good investment for growth investors.

The company’s strategy to focus on selling its products via its Cloud/Subscription plans has improved the net margins dramatically. This trend should continue as sales from its product subscription plans now make up more than 80% of its total revenues.

Financial Results

Source: Adobe Annual Report 2017

As we can see in the Income Statements table, revenues have increased at a growth rate of 15.8% per year between 2013 and 2017. Even better, revenues grew by 23% between 2015 and 2017. If we look at ADBE’s quarterly results for 2018, we can estimate revenues to reach $8.7-8.8 B by the end of 2018, which would represent a 1-year growth of 20%.

What I like the most about ADBE’s financial performance is the improvement in net margins. Profit margins improved from 7.2% in 2013 to 23.2% in 2017. If we look at the company’s quarterly results for 2018, we can expect the net margin to be around 27-30%. This is quite an improvement from 2013.

The main driver behind the improvement in the company’s net margins is certainly the shift of its revenues from selling Products to selling Subscriptions. Let’s have a look at the 3 tables below:

Source: Adobe Annual Report 2017

As we can see, and as we will discuss in the ‘Discussion and Outlook’ section, the company is now generating a very large percentage of its revenues from its Cloud subscription plans. We will also discuss how the company has categorized its products into 3 reportable segments: Digital Media, Digital Marketing, and Print & Publishing.

A quick look at the balance sheet shows that the company is in a good position to cover its short-term liabilities, with a current ratio above 2. Liabilities are growing at a faster pace than assets, as ADBE made a few acquisitions during the last 5 years. The company also bought Magento and Marketo in 2018. Investors should keep an eye on this aspect of the business as we move forward.

Stockholders’ equity grew at a modest rate of 5.9%. I like to see equity grow at a faster rate. However, the company completed some acquisitions and repurchased some of its shares. At this time, I am not too concerned about the growth in liabilities and the modest growth in shareholders equity.

Valuation

DCF Model

The output of my DCF model provides a price per share of 251$ / share. At its current price of 248,15$ / share, the shares seem to be selling at a fair value. The price target for the next year (12 months) is 280$ / share. This is 12% above its current market price.

P/E & PEG Ratios

Let’s now look at ADBE’s P/E and PEG ratios against some of its peers:

Company Name	Growth (5 yrs)	P/E	PEG
ADBE	32.6%	52.36	1.6
Peers
MSFT	13.1%	49.43	3.7
CLGX	10%	20.57	2.1
ORCL	8.16%	50.32	6.2
Average	15.9%	43.17	3.4

Given the numbers in the table above, I conclude that ADBE is selling at a decent Price-Earnings given its expected growth potential.

Discussion and Outlook

With revenues growing at +20% and net margins now approaching 30%, the company has done quite well during the last 3 years to generate positive cash flows for its shareholders. Here are 2 quotes from the company’s Q4 FY2018 targets:

Digital Media segment revenue ~22% year-over-year growth

Digital Experience segment revenue ~20% year-over-year growth

The question here is whether the trend is sustainable or not. I will discuss the company’s growth potential during the next 5 years.

Increasing Revenues from Subscription plans

The main driver behind the improvement in net margins is that the company now makes most of its sales from monthly or annual subscriptions. Users now download the products and pay a monthly/annual fee to use them. The company does not have to print CDs, package them and sell them through stores anymore. Purchasing is now made on the net directly to ADBE. Most software companies are now using this strategy to sell their products. Costs to produce the CDs are now a thing of the past, and the profits do not have to be split between developers and store operators.

As we have seen in the Financial Results section, ADBE’s percentage of sales produced from its Subscription plans has increased year after year and now makes up 84% of its revenues (2017). I expect this trend to continue and reach +90% within the next 5 years.

Revenues from all 3 of the company’s segments are shifting to subscription plans.

Digital Media Segment

In ADBE’s financial statements, the company recognizes its revenues from 3 distinct segments: Digital Media, Digital Marketing, and Print & Publishing.

The Digital Media Segment is the most lucrative of the segment, and the one growing at a faster rate. The products listed under this segment include Adobe Photoshop & Lightroom, Adobe Illustrator, Adobe InDesign, to name a few.

These products are used by professionals working in graphic design, photographs, web developers, animators, designers, etc. Even if the competition is stiff, most notably from Apple (NASDAQ:AAPL), Autodesk (NASDAQ:ADSK), Corel, and Microsoft, the branding of ADBE’s products is solid and we should expect these products to be in high demand by graphic design professionals in years to come.

ADBE also offers various plans to its users. Its clients can choose the plan that suits them so they can use the products they need to support their work. The Digital Media Segment Subscription Plans are supported by Adobe Creative Cloud.

The Digital Media Segment makes up 68.5% (2017) of ADBE’s revenues. With an average growth rate of 27% between 2015 and 2017, I expect this segment alone to provide 10-12% growth during the next 5 years.

Digital Marketing Segment

The Digital Marketing Segment is the second-largest segment of the company. The products from this segment are offered through Adobe Experience Cloud. The products offered through the Experience Cloud includes Adobe Analytics, Adobe Audience Manager, Adobe Experience Manager, Adobe Media Optimizer Search, etc.

These products enable customers to develop their web marketing strategies and help them deliver their products to their targeted audience.

This segment represents 30% of ADBE’s Revenues (2017) and it is growing at a rate of 18.5% since 2015. The competition is, however, quite stiff, most notably from Google (NASDAQ:GOOG) (NASDAQ:GOOGL). The company should be able to grow its revenues from this segment because of the growth potential from the Web Marketing/Advertising market. However, because of the presence of Google, I would expect the growth rate to slow down in the following years. A growth rate of 10-12% from this segment would provide 3-4% growth in ADBE’s top line during the next 5 years.

ADBE’s latest acquisitions (Magento, Marketo) should boost the offering from this segment. It remains to be seen what will be the impact of both acquisitions on the profitability and growth of the Digital Marketing Segment.

Print & Publishing Segment

The Print & Publishing Segment of ADBE generates the smallest percentage of the company’s revenues. The star product offered under this segment is Adobe Acrobat. This is one of the better-known products offered by ADBE.

This segment only accounts for 2% of ADBE revenues (2017). Revenues from this segment have been declining since 2015 at a rate of -5.4%.

At this point, I do not think that the Print & Publishing Segment will have a large impact on the company’s growth during the next 5 years.

Recurring Revenues

We have noted above that the Subscription plans have a positive impact on the company’s net margins. We must also acknowledge that subscriptions have another non-negligible advantage: Recurring revenues.

Monthly and annual fees cost less to customers upfront, but after 2-3 years, the company will generate more cash flow than collecting cash by simply selling its products once. Monthly and annual fees are also easier to predict, which will reduce some of the risk when analyzing the company’s financial results and predicting future income.

Information on its Q3 FY2018 Earnings Call seems to back up my expectations:

And approximately 90% of our revenue in Q3 was from recurring sources.

International Sales

ADBE generates its revenue across the globe. However, as we can see in the table below, sales from the United States represent above 50% of the company’s business.

Revenue (in Millions USD)	2015	2016	2017	% Growth
Americas:
USA	2,548	3,087	3,830	22%
Others	240	312	386	26.8%
Total Americas	2,788	3,400	4,216	23%
EMEA	1,336	1,619	1,985	21.8%
APAC
Japan	348	401	524	22.7%
Others	323	434	576	33.5%
Total APAC	671	835	1,100	28%
Total	4,796	5,854	7,301	23.3%

Values in Million USD

Source: Adobe Annual Report 2017

Even if the American market will still provide most of the growth during the next 5 years, I see a real opportunity for the company to gain market shares in Europe and in the Asia-Pacific area during the next 10 years. This could be a major growth driver for long-term investors.

To increase its sales in Europe, Management provided this information on its Q3 FY2018 Earnings Call Script:

We transitioned our Adobe.com sites in Europe to comply with new GDPR requirements, and we are successfully engaging with potential and existing customers – allowing us to continue to drive growth in revenue and ARR.

Risks

The company has its share of risk that could undermine the profitability of its operations in years to come.

Here is a list of risks investors should carefully monitor:

• Stiff competition from heavyweights such as Microsoft, Google, Apple.
• Currency fluctuation: The company reports its revenue in USD; however, it transacts around the globe in various currencies.
• Interest rate: The company’s liabilities are manageable; however, a rise in the interest rate could have an impact on future cash flows.
• Market risk: The company currently has a valuation above market average. Given the volatility of the market, growth stocks such as ADBE could undergo larger fluctuation than other stocks.

Conclusion

Adobe has the tools to provide growth rate of 12-15% in years to come, because of the following aspects of its business:

• Solid products, most notably from its Creative Cloud offering, that are leaders in their market.
• Expanding net margins from the shift of its sales to its subscription plans offering.
• Recurring revenue from its subscription plans.
• Expanding market in digital media, web development, graphic design, animation, etc.
• Gaining market shares outside of the United States, most notably in Europe and in the Asia-Pacific region.

Even if the stock is currently trading at a price-earnings ratio above 50, its current momentum, expanding net margins and growth potential make ADBE a solid investment at its current market price.

Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in ADBE over the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

FRANKFURT (Reuters) – Dialog Semiconductor expects revenues to grow in the mid-teens next year after a $600 million deal with Apple to transfer patents and programmers key to making the iPhone’s main power chip.

The landmark deal buys time for the Anglo-German chip designer, which relies on Apple for three-quarters of sales, to reinvent itself as a more diversified firm that will target new markets such as the Internet of Things.

“Our custom, configurable and programmable design expertise, coupled with our ability to quickly and reliably ramp to high-volume production, enables us to serve an increasingly broad customer base,” Chief Executive Jalal Bagherli said in a statement.

Dialog’s shares jumped by a third on Oct. 11, the day of the Apple deal, and gained another 9 percent on Wednesday after it released forecast-beating results and gave an upbeat outlook for the final quarter of 2018.

Bagherli was due to hold a strategy briefing with analysts in London on Thursday and ahead of the event the company provided its first guidance on its outlook for 2019. The Apple deal will not have any impact on the current year.

The company said overall revenues for 2019 would be roughly in line with this year’s forecast of $1.46 billion. On a like-for-like basis, after stripping out the operations that will go to Apple, the top line will grow in the mid-teens.

With the Apple deal proceeds adding to the $617 million already on hand, Dialog said it had the financial flexibility to pursue growth, including through mergers and acquisitions, while continuing its policy of returning capital to shareholders through share buybacks.

Dialog said on Wednesday it would spend up to 150 million euros on buying back nearly a tenth of its shares.

STABLE MARGINS

Dialog’s guidance for 2019 telegraphed a message of continuity. The company expects underlying gross margins of between 47 and 48 percent, a fraction below its third-quarter performance of 48.6 percent.

It sees underlying operating margin of between 18 and 23 percent, compared to a third-quarter outturn of 21.8 percent.

Dialog, which has no chip production assets of its own, is more tied to the fortunes of Apple than it is to the broader semiconductor industry cycle, where Korean electronics giant Samsung Electronics has warned that a two-year boom in memory chips could be ending.

It wants to shake off that image by deploying its expertise in so-called mixed-signal integrated circuits – which can handle both analogue and digital signals – to capture new market opportunities.

Dialog claims market leadership in rapid-charging and configurable mixed-signal circuits that are used, for example, to power up smartphones. It is number two in Bluetooth low-energy products that connect wearable devices like fitness trackers.

It said that in future it would focus on the Internet of Things – the online link-up of everyday objects via embedded communications technology – mobile, automotive, and computing and storage markets.

(Reuters) – An upgrade to Tesla Inc’s ‘Summon’ auto-parking feature will be ready within six weeks and will allow its vehicles to drive around a parking lot, find an empty spot and read parking signs, Chief Executive Elon Musk said on Thursday.

The upgrade will be compatible in all Tesla cars made in the past two years, Musk said in a series of tweets bit.ly/2Puaeur on Thursday.

“Car will drive to your phone location & follow you like a pet if you hold down summon button on Tesla app”, Musk said in one of his tweets, without giving details.

The upgrade will enable owners to operate their vehicles remotely like a big remote controlled car as long as it falls within the line of sight, Musk also said.

Summon, part of Tesla’s driver-assist Self-Pilot system, currently allows Model S drivers to park their cars from outside the vehicle in tight spots or to move the cars short distances to shift parking spot.

NEW YORK/LONDON (Reuters) – Seven years ago, Marshall Hayner gave his grandfather one bitcoin, worth about $30. On the paper wallet he fashioned to commemorate the gift, the U.S. entrepreneur and software developer wrote: “Do not open until $100,000.”

It made Hayner’s grandparents laugh, and indeed bitcoin has not come anywhere near that level. But it is worth more than 200 times what it was in 2011 when Hayner made the gift.

Investors who took a chance on the fledgling currency and stuck with it have been on a rollercoaster ride – but are optimistic that they are still onto a winner.

“I have seen these run-ups and drops in bitcoin and I did not even flinch,” said 34-year old Hayner, who started mining bitcoins in 2009 when the granddaddy of all cryptocurrencies was worth nothing. He also founded payments company Metal Pay.

“I believe in this technology. I really believe that bitcoin is the next digital gold,” he said in an interview this week.

Bitcoin on Wednesday celebrates ten years since Satoshi Nakamoto, bitcoin’s mysterious founder, released a whitepaper outlining the need for an internet currency that could be used as payment without going through a third party like a bank.

One bitcoin is now worth around $6,200. That is a steep 70 percent fall from its all-time high of near $20,000 in December last year, hurt by a more intense regulatory scrutiny around the world, as well as the rise of cryptocurrency crime including hacking, but a substantial boost for any early investors who bet on it.

“If the price goes down, I am happy because I was able to sell some,” said Israeli entrepreneur Daniel Peled, who has bought since late 2013 and believes another record peak is a few years away. “And if it goes up, I am happy too because I am still holding some.”

Peled’s optimism is partly based on his waiting for bitcoin’s next “halving,” which has constrained its supply and has caused its spike as demand increased.

Bitcoin relies on so-called “mining” computers that validate blocks of transactions by competing to solve mathematical puzzles every 10 minutes. In return, the first to solve the puzzle and clear the transaction is rewarded new bitcoins. Bitcoin technology was designed in such a way that it cut the reward for miners in half every four years, a move that was meant to keep a lid on inflation.

The next halving is scheduled in 2020 and the following year should be a good year for bitcoin, Peled said.

The same optimism has prompted London-based investor Nicholas Gregory to keep his bitcoins, which he bought heavily in early 2014.

Distrustful of exchanges, Gregory, currently chief executive of blockchain firm CommerceBlock, made his first purchase through a website that matched him to a man selling bitcoins on a memory stick in a New York cafe.

    Since then, he has not sold any bitcoins, citing the potential of the digital currency to safely store value and transfer money across the internet.

LOST POTENTIAL?

Some investors, however, have become disillusioned, arguing that bitcoin has been held back and not reached its expected potential by taking off in the real world.

Vaughn Blake, a Los Angeles-based portfolio manager at private equity firm Echo Tree Capital, liquidated his cryptocurrency quantitative fund in January this year when bitcoin was at $13,000. He started investing in bitcoin in 2013 when it was around $120 but said he has been a victim of hacks and phishing attempts.

Bitcoin’s technology has also not always been an efficient means of processing payments. It can be slow, sometimes incurring higher fees than regular transactions, market participants said.

London-based entrepreneur Jez San, CEO of blockchain firm Funfair Technologies, started buying bitcoin in 2013, at around $50, but sold most of it well before the peak in December 2017. He invested in Ethereum, the second-largest cryptocurrency that runs on another public blockchain network, instead.

“We all expected people would be buying coffees with it and they would use it instead of PayPal,” said San. “Bitcoin is way too hard to use – it’s so user unfriendly that the man in the street just can’t use it.”

LONDON/NEW YORK (Reuters) – Bitcoin, the world’s first and most famous cryptocurrency, celebrates its tenth birthday on Wednesday.

Its emergence has spawned a multitude of other digital currencies, brought blockchain technology to global attention, and vexed regulators worried about its crime misuse and weakness to hacking.

The following are some major milestones in bitcoin’s first decade:

Oct. 31, 2008 The still-unidentified Satoshi Nakamoto releases a nine-page academic paper that sets out how bitcoin would work. “Bitcoin: A Peer-to-Peer Electronic Cash System” also gives the first description of the blockchain decentralized ledger, the technology that underpins the digital currency.

Jan. 3, 2009 Nakamoto mines the first “block” of bitcoins on the blockchain. Days later, Nakamoto sends bitcoins in its first ever transaction.

Jan. 12, 2009

The first bitcoin transaction takes place between Nakamoto and developer Hal Finney. The transaction is recorded in block 170.

Oct. 12, 2009

Martti Malmi, a software developer from Finland, sends 5,050 bitcoins for $5.02 to NewLibertyStandard, one of the regulars in a bitcoin forum. The transaction is realized using PayPal. The bitcoins are used to seed a new bitcoin exchange site called New Liberty Standard.

October 2009

The New Liberty Standard establishes the value of bitcoin at 1,309.03 bitcoins to 1 dollar.

February 2010

The world’s first bitcoin market is established by dwdollar.

May 22, 2010 Software developer Laszlo Hanecz buys two pizzas for 10,000 bitcoins, widely seen as the first time the digital currency is used for its intended purpose – the purchase of goods.

July 7, 2010

Bitcoin’s new software is released by the community of developers and over the next five days, there is a ten-fold increase in its exchange value – from US$0.008 per bitcoin to US$0.08 per bitcoin.

July 17, 2010

Mt. Gox is launched, which eventually becomes the world’s largest bitcoin exchange, prior to going bankrupt in 2014.

Nov. 28, 2013

As media attention intensifies, Bitcoin tops $1,000 for the first time. It falls below that level only days later, and does not reach the landmark again for over three years. Feb. 28, 2014

Tokyo-based Mt. Gox files for bankruptcy protection after hackers steal some 850,00 bitcoins – worth around half a billion U.S. dollars – and $28 million in cash. The theft, the biggest of digital coins ever, underscores security flaws at exchanges and the risks faced by investors in the unregulated sector.

Aug. 1, 2017

Bitcoin’s underlying software code splits to create Bitcoin Cash, a clone of bitcoin. The move is spearheaded by bitcoin miners in China unhappy with scheduled improvements to the currency’s technology meant to increase its capacity to process transactions. Dec. 10, 2017

Chicago exchange operators Cboe Global Markets Inc and CME Group Inc launch bitcoin futures trading, allowing professional mainstream investors to bet on the price of the digital currency. Dec. 18, 2017

Bitcoin hits its record high of $19,666 on cryptocurrency exchange Bitstamp, the high water mark of a frenzied year that sees bitcoin climb by more than 1,300 percent as retail investors scramble to buy. June 29, 2018

Bitcoin slides to its lowest level since its December peak, hurt by tighter regulatory oversight across the world and waning interest from retail investors. Oct. 19, 2018

The global money-laundering watchdog says it will set out by next year rules for how governments should regulate cryptocurrency exchanges in a bid to stamp out the criminal use of bitcoin and other digital coins.

BERLIN (Reuters) – German fintech company Wirecard reported a 35 pct jump in third-quarter revenues to 549.2 million euro ($624.50 million) on Tuesday, beating analysts’ consensus of 529.9 mln euros.

Earnings before interest, tax, depreciation and amortization (EBITDA) increased by about 36 percent from the year-earlier period to 150.1 million euro, the company said. That slightly topped analysts’ consensus for 148.2 million euros, according to Thomson Reuters data.

It said it expected a strong business development in the fourth quarter and confirmed its EBITDA forecast of 530 million to 560 million euros.

($1 = 0.8794 euros)

OSAKA (Reuters) – Japan’s Nintendo Co Ltd reported a 30 percent rise in second-quarter operating profit on Tuesday, albeit missing analyst estimates, as sales of Switch hardware and games drive its earnings recovery.

July-September profit reached 30.9 billion yen ($274.11 million), the Kyoto-based gaming company said. That compared with a 36.6 billion yen average of seven analyst estimates, Refinitiv data showed.

Nintendo sold 5.07 million of its Switch consoles over April-September. It maintained its sales forecast for the year ending March at 20 million consoles.

($1 = 112.7300 yen)

Don’t retaliate.

Be compassionate.

Confront them in a nonjudgmental way.

Set clear expectations.

Start looking for new opportunities.