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Patterson Companies Inc.’s (PDCO - Analyst Report) second quarter fiscal 2013 adjusted earnings of 44 cents per share (up 2.3% year-over-year) missed the Zacks Consensus Estimate of 49 cents.

In the reported quarter, profit dropped 7% year over year to $45.5 million (or 44 cents a share). Net income was impacted by unexpected lower sales of dental equipment and an incremental interest expense of $3.2 million associated with the company’s debt issuance in the third quarter of 2012.

Revenue

Revenues for the second quarter inched up 1% year over year to $867.2 million, trailing the Zacks Consensus Estimate of $894 million. Sales were adversely affected by soft dental equipment sales (including chairs, units and lighting), partially offset by strong technology equipment sales. However, the Veterinary business contributed significantly to total revenues.

Segment Analysis

Revenues from the core Patterson Dental roughly remained flat year over year at $549.1 million.

Within Patterson Dental, sales of consumable and printed products inched up 1% to $315.4 million in the quarter. Sales from the equipment and software offerings unexpectedly dropped 3.2% to $169.3 million.

Higher demand for the CEREC system, which has been incorporated with the latest Omnicare camera, was constrained by limited product availability. This offset higher technology products sales. Other services and products grew 1.6% year over year to $64.5 million.

Revenues from the Webster Veterinary segment grew 6.8% to $184.4 million. Internally-generated sales jumped 13% in the reported quarter. However, sales were affected by a change in a distribution agreement related to nutritional offerings which dampened growth by 6%.

Revenues from Patterson Medical segment remained flat year over year at $133.7 million due to lower equipment sales. Surgical Synergies, acquired by Patterson in April 2012, contributed 1% to the sales growth of this business segment.

The division’s equipment franchise continues to be adversely impacted by the uncertainties related to the U.S. health care system. Despite such uncertainties, the segment is geared to utilize the worldwide growing trend of the Rehabilitation market.

Margins

Gross margin was 32.4% in the second quarter compared to 32.8% in the prior-year quarter. Operating margin declined to 9% from 9.7%.

Balance Sheet and Other

Patterson exited the quarter with cash and cash equivalent of $500.4 million. Long-term debt was higher by 38.1% at $725 million. During the quarter, Patterson repurchased roughly 1.6 million shares under its share buyback program. About 8 million shares are still available for repurchase before the authorization expires in 2016.

Guidance

For fiscal 2013, Patterson lowered its earnings forecast to the range of $2.00–$2.06 per share from the earlier range of $2.10–$2.16 per share due to the company’s disappointing second-quarter results as well as the persisting macroeconomic uncertainties.

Our View

Patterson provides a wide range of consumables, equipment and software, and value-added services to its customers. The company competes head-to-head with Henry Schein Inc. (HSIC - Analyst Report) in the dental market.

Patterson Dental is the company’s largest business segment and one of the two largest distributors of dental products in North America. The recent acquisition of Iowa Dental Supply, LLC (IDS), a full service distributor of dental products, will likely boost Patterson Dental’s foothold in the mid-western U.S. market and provide a competitive edge as well.

Moreover, the alliance with Sirona Dental Systems Inc. (SIRO - Snapshot Report), a leading dental technologies company, further bolsters Patterson Dental’s leading position in the North American dental distribution business. The Omnicare camera for the CEREC system, developed by Sirona and to be distributed by Patterson, is the latest growth driver for this product line.

However, the company remains affected by tough macroeconomic issues in North America and international markets. It is also facing internal operational shortcomings, which need to be addressed immediately. We currently have a Neutral recommendation on the stock, which carries a short-term Zacks #2 Rank (Buy).

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