Patterson reported disappointing fiscal fourth-quarter results on Thursday morning, missing our EPS estimate and the consensus by 5 cents. In addition, initial fiscal 2015 EPS guidance of $2.20 to $2.30 was below our target and consensus expectations by about 15 cents at the midpoint. We believe a combination of conservative expectations for underlying market growth (expected to be similar to fiscal 2014 despite some signs of improvement of late), and expectations for reinvestment of cost savings back into the company, are driving earnings growth in the high-single digits at the midpoint, compared to the 10% expectation we had going into the quarter.

Given the conservatism built into guidance, we are tempted to expect upward guidance revisions throughout the year; however, for the past six fiscal years, full-year EPS have come in at or below the low end of initial guidance. Thus, while we believe Patterson remains positioned to gain share in dental and animal health, we hesitate to become more constructive as we wait for signs of more-consistent growth and margin improvement. We are reducing our fiscal 2015 EPS estimate by 15 cents, to $2.24 (up 7%), and maintain our Market Perform rating.

After a difficult winter that presented challenges with weather (150-200 basis point headwind) coupled with a tough year-ago comparison, dental sales declined 2.2% in the quarter. Dental consumables declined 0.4%, while equipment was down 5.5%. Excluding the impact of weather and foreign exchange (a further 100-basis-point headwind), we believe dental consumables would have been up approximately 3% and dental overall would have been flat. This gives us comfort that as we head into fiscal 2015, management expectations of 2.5%-3.0% consumable growth (in line with GDP) and equipment growth in the low- to midsingle-digit range seem reasonable. Given management commentary that growth trends in April and May have improved, we believe our revised fiscal 2015 expectations of 2.8% consumables growth (down from 3.3%) and 4.9% for equipment (down from 6.0%) are reasonable.

Patterson Veterinary saw total sales increase 77% in the quarter, driven by last summer’s acquisition of NVS, which contributed $156 million, an acceleration from the second-quarter contribution of $146 million and well above the initial expected annual contribution of $470 million. We believe NVS is ahead of expectations and has been a good cultural fit for Patterson. While it is unclear where the significant revenue outperformance has come from, we suspect they may have seen increased business from a former large customer of Centaur. MWI (Centaur’s parent) disclosed last year that it was reducing exposure to a large client in the U.K. The NVS acquisition will have been with Patterson a full year in the fiscal second quarter, at which point we believe it will grow at the market rate of 3-4%.

Patterson trades at 16.3 times our revised calendar 2015 EPS estimate of $2.40 compared to MWI at 20.9 times and HSIC at 19.7 times. This is above the company’s five year forward average multiple of 15.7 times and compares to the five year range of 11.7 times to 18.5 times. While valuation has improved relative to its peers, given volatility in the dental segment, ongoing pressure on margins, and EPS growth that seems stuck in the mid-single digit range, we maintain our Market Perform rating.

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