Henry Schein
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HENRY SCHEIN : MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (form 10-Q)

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11/06/2017 | 08:27 pm

Cautionary Note Regarding Forward-Looking Statements






In accordance with the "Safe Harbor" provisions of the Private Securities
Litigation Reform Act of 1995, we provide the following cautionary remarks
regarding important factors that, among others, could cause future results to
differ materially from the forward-looking statements, expectations and
assumptions expressed or implied herein. All forward-looking statements made by
us are subject to risks and uncertainties and are not guarantees of future
performance. These forward-looking statements involve known and unknown risks,
uncertainties and other factors that may cause our actual results, performance
and achievements or industry results to be materially different from any future
results, performance or achievements expressed or implied by such
forward-looking statements. These statements are identified by the use of such
terms as "may," "could," "expect," "intend," "believe," "plan," "estimate,"
"forecast," "project," "anticipate" or other comparable terms.



Risk factors and uncertainties that could cause actual results to differ
materially from current and historical results include, but are not limited to:
effects of a highly competitive and consolidating market; our dependence on
third parties for the manufacture and supply of our products; our dependence
upon sales personnel, customers, suppliers and manufacturers; our dependence on
our senior management; fluctuations in quarterly earnings; risks from expansion
of customer purchasing power and multi-tiered costing structures; increases in
shipping costs for our products or other service issues with our third-party
shippers; general global macro-economic conditions; risks associated with
currency fluctuations; risks associated with political and economic uncertainty;
disruptions in financial markets; volatility of the market price of our common
stock; changes in the health care industry; implementation of health care laws;
failure to comply with regulatory requirements and data privacy laws; risks
associated with our global operations; transitional challenges associated with
acquisitions and joint ventures, including the failure to achieve anticipated
synergies; financial risks associated with acquisitions and joint ventures;
litigation risks; the dependence on our continued product development, technical
support and successful marketing in the technology segment; increased
competition by third party online commerce sites; risks from disruption to our
information systems; cyberattacks or other privacy or data security breaches;
certain provisions in our governing documents that may discourage third-party
acquisitions of us; and changes in tax legislation. The order in which these
factors appear should not be construed to indicate their relative importance or
priority.




We caution that these factors may not be exhaustive and that many of these
factors are beyond our ability to control or predict. Accordingly, any
forward-looking statements contained herein should not be relied upon as a
prediction of actual results. We undertake no duty and have no obligation to
update forward-looking statements.



Where You Can Find Important Information



We may disclose important information through one or more of the following
channels: SEC filings, public conference calls and webcasts, press releases, the
investor relations page of our website (www.henryschein.com) and the social
media channels identified on the Newsroom page of our website.






Executive-Level Overview



We believe we are the world's largest provider of health care products and
services primarily to office-based dental, animal health and medical
practitioners. We serve more than 1 million customers worldwide including dental
practitioners and laboratories, animal health clinics and physician practices,
as well as government, institutional health care clinics and other alternate
care clinics. We believe that we have a strong brand identity due to our more
than 85 years of experience distributing health care products.



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We are headquartered in Melville, New York, employ more than 22,000 people (of
which more than 11,000 are based outside the United States) and have operations
or affiliates in 33 countries, including the United States, Australia, Austria,
Belgium, Brazil, Canada, Chile, China, the Czech Republic, Denmark, France,
Germany, Hong Kong SAR, Ireland, Israel, Italy, Japan, Luxembourg, Malaysia, the
Netherlands
, New Zealand, Norway, Poland, Portugal, Romania, Slovakia, South
Africa
, Spain, Sweden, Switzerland, Thailand, United Arab Emirates and the
United Kingdom.



We have established strategically located distribution centers to enable us to
better serve our customers and increase our operating efficiency. This
infrastructure, together with broad product and service offerings at competitive
prices, and a strong commitment to customer service, enables us to be a single
source of supply for our customers' needs. Our infrastructure also allows us to
provide convenient ordering and rapid, accurate and complete order fulfillment.




We conduct our business through two reportable segments: (i) health care
distribution and (ii) technology and value-added services. These segments offer
different products and services to the same customer base.






The health care distribution reportable segment aggregates our global dental,
animal health and medical operating segments. This segment distributes
consumable products, small equipment, laboratory products, large equipment,
equipment repair services, branded and generic pharmaceuticals, vaccines,
surgical products, diagnostic tests, infection-control products and
vitamins. Our global dental group serves office-based dental practitioners,
dental laboratories, schools and other institutions. Our global animal health
group serves animal health practices and clinics. Our global medical group
serves office-based medical practitioners, ambulatory surgery centers, other
alternate-care settings and other institutions.




Our global technology and value-added services group provides software,
technology and other value-added services to health care practitioners. Our
technology group offerings include practice management software systems for
dental and medical practitioners and animal health clinics. Our value-added
practice solutions include financial services on a non-recourse basis,
e-services, practice technology, network and hardware services, as well as
continuing education services for practitioners.





Industry Overview



In recent years, the health care industry has increasingly focused on cost
containment. This trend has benefited distributors capable of providing a broad
array of products and services at low prices. It also has accelerated the growth
of HMOs, group practices, other managed care accounts and collective buying
groups, which, in addition to their emphasis on obtaining products at
competitive prices, tend to favor distributors capable of providing specialized
management information support. We believe that the trend towards cost
containment has the potential to favorably affect demand for technology
solutions, including software, which can enhance the efficiency and facilitation
of practice management.



Our operating results in recent years have been significantly affected by
strategies and transactions that we undertook to expand our business,
domestically and internationally, in part to address significant changes in the
health care industry, including consolidation of health care distribution
companies, health care reform, trends toward managed care, cuts in Medicare and
collective purchasing arrangements.



Our current and future results have been and could be impacted by the current
economic environment and uncertainty, particularly impacting overall demand for
our products and services.





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Industry Consolidation



The health care products distribution industry, as it relates to office-based
health care practitioners, is fragmented and diverse. This industry, which
encompasses the dental, animal health and medical markets, was estimated to
produce revenues of approximately $45 billion in 2016 in the global markets. The
industry ranges from sole practitioners working out of relatively small offices
to group practices or service organizations ranging in size from a few
practitioners to a large number of practitioners who have combined or otherwise
associated their practices.



Due in part to the inability of office-based health care practitioners to store
and manage large quantities of supplies in their offices, the distribution of
health care supplies and small equipment to office-based health care
practitioners has been characterized by frequent, small quantity orders, and a
need for rapid, reliable and substantially complete order fulfillment. The
purchasing decisions within an office-based health care practice are typically
made by the practitioner or an administrative assistant. Supplies and small
equipment are generally purchased from more than one distributor, with one
generally serving as the primary supplier.



The trend of consolidation extends to our customer base. Health care
practitioners are increasingly seeking to partner, affiliate or combine with
larger entities such as hospitals, health systems, group practices or physician
hospital organizations. In many cases, purchasing decisions for consolidated
groups are made at a centralized or professional staff level; however, orders
are delivered to the practitioners' offices.



We believe that consolidation within the industry will continue to result in a
number of distributors, particularly those with limited financial, operating and
marketing resources, seeking to combine with larger companies that can provide
growth opportunities. This consolidation also may continue to result in
distributors seeking to acquire companies that can enhance their current product
and service offerings or provide opportunities to serve a broader customer base.



Our trend with regard to acquisitions and joint ventures has been to expand our
role as a provider of products and services to the health care industry. This
trend has resulted in our expansion into service areas that complement our
existing operations and provide opportunities for us to develop synergies with,
and thus strengthen, the acquired businesses.



As industry consolidation continues, we believe that we are positioned to
capitalize on this trend, as we believe we have the ability to support increased
sales through our existing infrastructure, although there can be no assurances
that we will be able to successfully accomplish this. We also have invested in
expanding our sales/marketing infrastructure to include a focus on building
relationships with decision makers who do not reside in the office-based
practitioner setting.



As the health care industry continues to change, we continually evaluate
possible candidates for merger and joint venture or acquisition and intend to
continue to seek opportunities to expand our role as a provider of products and
services to the health care industry. There can be no assurance that we will be
able to successfully pursue any such opportunity or consummate any such
transaction, if pursued. If additional transactions are entered into or
consummated, we would incur merger and/or acquisition-related costs, and there
can be no assurance that the integration efforts associated with any such
transaction would be successful.




Aging Population and Other Market Influences






The health care products distribution industry continues to experience growth
due to the aging population, increased health care awareness, the proliferation
of medical technology and testing, new pharmacology treatments and expanded
third-party insurance coverage, partially offset by the effects of unemployment
on insurance coverage. In addition, the physician market continues to benefit
from the shift of procedures and diagnostic testing from acute care settings to
alternate-care sites, particularly physicians' offices.



According to the U.S. Census Bureau's International Data Base, in 2016 there
were more than six million Americans aged 85 years or older, the segment of the
population most in need of long-term care and elder-care

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services. By the year 2050, that number is projected to nearly triple to
approximately 19 million. The population aged 65 to 84 years is projected to
increase over 60% during the same time period.






As a result of these market dynamics, annual expenditures for health care
services continue to increase in the United States. We believe that demand for
our products and services will grow, while continuing to be impacted by current
and future operating, economic and industry conditions. The Centers for Medicare
and Medicaid Services
, or CMS, published "National Health Expenditure
Projections 2016-2025" indicating that total national health care spending
reached approximately $3.4 trillion in 2016, or 18.1% of the nation's gross
domestic product, the benchmark measure for annual production of goods and
services in the United States. Health care spending is projected to reach
approximately $5.5 trillion in 2025, approximately 19.9% of the nation's gross
domestic product.



Government



Certain of our businesses involve the distribution of pharmaceuticals and
medical devices, and in this regard we are subject to extensive local, state,
federal and foreign governmental laws and regulations applicable to the
distribution and sale of pharmaceuticals and medical devices. Additionally,
government and private insurance programs fund a large portion of the total cost
of medical care, and there has been an emphasis on efforts to control medical
costs, including laws and regulations lowering reimbursement rates for
pharmaceuticals, medical devices, and/or medical treatments or services. Also,
many of these laws and regulations are subject to change and may impact our
financial performance. In addition, our businesses are generally subject to
numerous other laws and regulations that could impact our financial performance,
including securities, antitrust, anti-bribery and anti-kickback, customer
interaction transparency, data privacy, data security and other laws and
regulations. Failure to comply with law or regulations could have a material
adverse effect on our business.



Health Care Reform



The United States Health Care Reform Law adopted through the March 2010
enactment of the Patient Protection and Affordable Care Act and the Health Care
and Education Reconciliation Act increased federal oversight of private health
insurance plans and included a number of provisions designed to reduce Medicare
expenditures and the cost of health care generally, to reduce fraud and abuse,
and to provide access to increased health coverage.



The Health Care Reform Law requirements include a 2.3% excise tax on domestic
sales of many medical devices by manufacturers and importers that began in 2013
and a fee on branded prescription drugs and biologics that was implemented in
2011, both of which may affect sales. However, with respect to the medical
device excise tax, a two-year moratorium was imposed under the Consolidated
Appropriations Act, 2016, suspending the imposition of the tax on device sales
during the period beginning January 1, 2016 and ending on December 31, 2017.
The Health Care Reform Law has also materially expanded the number of
individuals in the United States with health insurance. The Health Care Reform
Law has faced ongoing legal challenges, including litigation seeking to
invalidate some of or all of the law or the manner in which it has been
implemented. The President has reaffirmed his intention to repeal and replace
the Health Care Reform Law, and has taken a number of administrative actions
that seek to materially weaken the Health Care Reform Law, such as to curtail
funding intended to help lower-income individuals pay for health insurance
policies, and to make less robust plans available, both of which actions may
adversely affect our business. Some of these administrative actions have been
challenged as unlawful. The uncertain status of the Health Care Reform Law
affects our ability to plan.



A Health Care Reform Law provision, generally referred to as the Physician
Payment Sunshine Act or Open Payments Program, imposes reporting and disclosure
requirements for drug and device manufacturers and distributors with regard to
payments or other transfers of value made to certain covered recipients
(including physicians, dentists and teaching hospitals), and for such
manufacturers and distributors and for group purchasing organizations, with
regard to certain ownership interests held by physicians in the reporting
entity. CMS publishes information from these reports on a publicly available
website, including amounts transferred and physician, dentist and teaching
hospital identities.



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Under the Physician Payment Sunshine Act, we are required to collect and report
detailed information regarding certain financial relationships we have with
physicians, dentists and teaching hospitals. We believe that we are
substantially compliant with applicable Physician Payment Sunshine Act
requirements. The Physician Payment Sunshine Act pre-empts similar state
reporting laws, although we or our subsidiaries may be required to report under
certain state transparency laws that address circumstances not covered by the
Physician Payment Sunshine Act, and some of these state laws, as well as the
federal law, can be ambiguous. We are also subject to foreign regulations
requiring transparency of certain interactions between suppliers and their
customers. While we believe we have substantially compliant programs and
controls in place to comply with these requirements, our compliance with these
rules imposes additional costs on us.



Another notable Medicare health care reform initiative, the Medicare Access and
CHIP Reauthorization Act of 2015 ("MACRA"), enacted on April 16, 2015,
establishes a new payment framework, called the Quality Payment Program, which
modifies certain Medicare payments to "eligible clinicians," including
physicians, dentists and other practitioners. Under MACRA, eligible clinicians
will be required to participate in Medicare through the Merit-Based Incentive
Payment System ("MIPS") or Advanced Alternative Payment Models ("APMs"). MIPS
generally will consolidate three current programs; the physician quality
reporting system, the value-based payment modifier and the Medicare electronic
health record ("EHR") program, into a single program in which Medicare
reimbursement to eligible clinicians will include both positive and negative
payment adjustments that take into account quality, resource use, clinical
practice improvement and meaningful use of certified EHR technology. Advanced
APMs generally involve higher levels of financial and technology risk. A final
rule was published in the Federal Register on November 4, 2016 and allows
eligible Medicare clinicians to pick their pace of participation for the first
performance period that began January 1, 2017. The data collected in the first
performance year will determine payment adjustments beginning January 1, 2019.
A final rule updating certain Quality Payment Program regulations is expected to
be released on or about November 1, 2017, and is anticipated to be effective on
January 1, 2018. MACRA represents a fundamental change in physician
reimbursement that is expected to provide substantial financial incentives for
physicians to participate in risk contracts, and to increase physician
information technology and reporting obligations. The implications of the
implementation of MACRA are uncertain and will depend on future regulatory
activity and physician activity in the marketplace. MACRA may encourage
physicians to move from smaller practices to larger physician groups or hospital
employment, leading to a consolidation of a portion of our customer base.
Although we believe that we are positioned to capitalize on this consolidation
trend, there can be no assurances that we will be able to successfully
accomplish this.



Health Care Fraud



Certain of our businesses are subject to federal and state (and similar foreign)
health care fraud and abuse, referral and reimbursement laws and regulations
with respect to their operations. Some of these laws, referred to as "false
claims laws," prohibit the submission or causing the submission of false or
fraudulent claims for reimbursement to federal, state and other health care
payers and programs. Other laws, referred to as "anti-kickback laws," prohibit
soliciting, offering, receiving or paying remuneration in order to induce the
referral of a patient or ordering, purchasing, leasing or arranging for, or
recommending ordering, purchasing or leasing of, items or services that are paid
for by federal, state and other health care payers and programs.



The fraud and abuse laws and regulations have been subject to varying
interpretations, as well as heightened enforcement activity over the past few
years, and significant enforcement activity has been the result of "relators,"
who serve as whistleblowers by filing complaints in the name of the United
States
(and if applicable, particular states) under federal and state false
claims laws. Under the federal False Claims Act, relators can be entitled to
receive up to 30% of total recoveries. Also, violations of the federal False
Claims Act can result in treble damages, and each false claim submitted can be
subject to a civil penalty which, for penalties assessed after February 3, 2017
whose associated violations occurred after November 2, 2015, ranges from a
minimum of $10,957 to a maximum of $21,916 per claim. Most states have adopted
similar state false claims laws, and these state laws have their own penalties
which may be in addition to federal False Claims Act penalties. The Health Care
Reform Law significantly strengthened the federal False Claims Act and the
federal Anti-Kickback Law provisions, which could lead to the possibility of
increased whistleblower or relator suits, and among other things made clear that
a federal Anti-Kickback Law violation can be a basis for federal False Claims
Act liability.



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The United States government (among others) has expressed concerns about
financial relationships between suppliers on the one hand and physicians and
dentists on the other. As a result, we regularly review and revise our marketing
practices as necessary to facilitate compliance.



We also are subject to certain United States and foreign laws and regulations
concerning the conduct of our foreign operations, including the U.S. Foreign
Corrupt Practices Act, the U.K. Bribery Act, German anti-corruption laws and
other anti-bribery laws and laws pertaining to the accuracy of our internal
books and records, which have been the focus of increasing enforcement activity
globally in recent years.



Failure to comply with fraud and abuse laws and regulations could result in
significant civil and criminal penalties and costs, including the loss of
licenses and the ability to participate in federal and state health care
programs, and could have a material adverse effect on our business. Also, these
measures may be interpreted or applied by a prosecutorial, regulatory or
judicial authority in a manner that could require us to make changes in our
operations or incur substantial defense and settlement expenses. Even
unsuccessful challenges by regulatory authorities or private relators could
result in reputational harm and the incurring of substantial costs. In addition,
many of these laws are vague or indefinite and have not been interpreted by the
courts, and have been subject to frequent modification and varied interpretation
by prosecutorial and regulatory authorities, increasing the risk of
noncompliance.



While we believe that we are substantially compliant with applicable fraud and
abuse laws and regulations, and have adequate compliance programs and controls
in place to ensure substantial compliance, we cannot predict whether changes in
applicable law, or interpretation of laws, or changes in our services or
marketing practices in response to changes in applicable law or interpretation
of laws, could have a material adverse effect on our business.




Operating, Security and Licensure Standards






Certain of our businesses involve the distribution of pharmaceuticals and
medical devices, and in this regard we are subject to various local, state,
federal and foreign governmental laws and regulations applicable to the
distribution of pharmaceuticals and medical devices. Among the United States
federal laws applicable to us are the Controlled Substances Act, the Federal
Food, Drug, and Cosmetic Act, as amended ("FDC Act"), and Section 361 of the
Public Health Service Act. We are also subject to comparable foreign
regulations.



The FDC Act and similar foreign laws generally regulate the introduction,
manufacture, advertising, labeling, packaging, storage, handling, reporting,
marketing and distribution of, and record keeping for, pharmaceuticals and
medical devices shipped in interstate commerce, and states may similarly
regulate such activities within the state. Section 361 of the Public Health
Service Act, which provides authority to prevent the spread of communicable
diseases, serves as the legal basis for the United States Food and Drug
Administration's
("FDA") regulation of human cells, tissues and cellular and
tissue-based products, also known as "HCT/P products."



The Federal Drug Quality and Security Act of 2013 brought about significant
changes with respect to pharmaceutical supply chain requirements and pre-empts
state law. Title II of this measure, known as the Drug Supply Chain Security Act
("DSCSA"), is being phased in over a period of ten years, and is intended to
build a national electronic, interoperable system to identify and trace certain
prescription drugs as they are distributed in the United States. The law's track
and trace requirements applicable to manufacturers, wholesalers, repackagers and
dispensers (e.g., pharmacies) of prescription drugs took effect in January 2015,
and will continue to be implemented. The DSCSA product tracing requirements
replace the former FDA drug pedigree requirements and pre-empt state
requirements that are inconsistent with, more stringent than, or in addition to,
the DSCSA requirements.



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The DSCSA also establishes certain requirements for the licensing and operation
of prescription drug wholesalers and third party logistics providers ("3PLs"),
and includes the eventual creation of national wholesaler and 3PL licenses in
cases where states do not license such entities. The DSCSA requires that
wholesalers and 3PLs distribute drugs in accordance with certain standards
regarding the recordkeeping, storage and handling of prescription
drugs. According to FDA guidance, states are pre-empted from imposing any
licensing requirements that are inconsistent with, less stringent than, directly
related to, or covered by the standards established by federal law in this
area. Current state licensing requirements will likely remain in effect until
the FDA issues new regulations as directed by the DSCSA.




We believe that we are substantially compliant with applicable DSCSA
requirements.






The Food and Drug Administration Amendments Act of 2007 and the Food and Drug
Administration Safety and Innovation Act of 2012 amended the FDC Act to require
the FDA to promulgate regulations to implement a unique device identification
("UDI") system. The FDA is phasing in the implementation of the UDI regulations
over seven years, generally beginning with the highest-risk devices (i.e.,
Class III medical devices) and ending with the lowest-risk devices. The UDI
regulations require "labelers" to include unique device identifiers ("UDIs"),
with a content and format prescribed by the FDA and issued under a system
operated by an FDA-accredited issuing agency, on the labels and packages of
medical devices, and to directly mark certain devices with UDIs. The UDI
regulations also require labelers to submit certain information concerning
UDI-labeled devices to the FDA, much of which information is publicly available
on an FDA database, the Global Unique Device Identification Database. The UDI
regulations provide for certain exceptions, alternatives and time extensions.
For example, the UDI regulations include a general exception for Class I devices
exempt from the Quality System Regulation (other than record-keeping
requirements and complaint files). Regulated labelers include entities such as
device manufacturers, repackagers, reprocessors and relabelers that cause a
device's label to be applied or modified, with the intent that the device will
be commercially distributed without any subsequent replacement or modification
of the label, and include certain of our businesses.




We believe that we are substantially compliant with applicable UDI requirements.






Under the Controlled Substances Act, as a distributor of controlled substances,
we are required to obtain and renew annually registrations for our facilities
from the United States Drug Enforcement Administration ("DEA") permitting us to
handle controlled substances. We are also subject to other statutory and
regulatory requirements relating to the storage, sale, marketing, handling,
reporting and distribution of such drugs, in accordance with the Controlled
Substances Act and its implementing regulations, and these requirements have
been subject to heightened enforcement activity in recent times. We are subject
to inspection by the DEA.



Certain of our businesses are also required to register for permits and/or
licenses with, and comply with operating and security standards of, the DEA, the
FDA, the United States Department of Health and Human Services ("HHS"), and
various state boards of pharmacy, state health departments and/or comparable
state agencies as well as comparable foreign agencies, and certain accrediting
bodies depending on the type of operations and location of product distribution,
manufacturing or sale. These businesses include those that distribute,
manufacture and/or repackage prescription pharmaceuticals and/or medical devices
and/or HCT/P products, or own pharmacy operations, or install, maintain or
repair equipment. In addition, Section 301 of the National Organ Transplant
Act, and a number of comparable state laws, impose civil and/or criminal
penalties for the transfer of certain human tissue (for example, human bone
products) for valuable consideration, while generally permitting payments for
the reasonable costs incurred in procuring, processing, storing and distributing
that tissue. We are also subject to foreign government regulation of such
products. The DEA, the FDA and state regulatory authorities have broad
inspection and enforcement powers, including the ability to suspend or limit the
distribution of products by our distribution centers, seize or order the recall
of products and impose significant criminal, civil and administrative sanctions
for violations of these laws and regulations. Foreign regulations subject us to
similar foreign enforcement powers. Furthermore, compliance with legal
requirements has required and may in the future require us to institute
voluntary recalls, or carry out recalls as a result of our suppliers' legal
obligations, of products we sell, which could result in financial losses and
potential reputational harm. Our customers are also subject to significant
federal, state, local and foreign governmental regulation.



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Certain of our businesses are subject to various additional federal, state,
local and foreign laws and regulations, including with respect to the sale,
transportation, storage, handling and disposal of hazardous or potentially
hazardous substances, and safe working conditions.



Certain of our businesses also maintain contracts with governmental agencies and
are subject to certain regulatory requirements specific to government
contractors.






Antitrust



The U.S. federal government, most U.S. states and many foreign countries have
antitrust laws that prohibit certain types of conduct deemed to be
anti-competitive. Violations of antitrust laws can result in various sanctions,
including criminal and civil penalties. Private plaintiffs also could bring
civil lawsuits against us in the United States for alleged antitrust law
violations, including claims for treble damages.




Regulated Software and Data Processing; Electronic Health Records






The FDA has become increasingly active in addressing the regulation of computer
software intended for use in health care settings, and has developed and
continues to develop policies on regulating clinical decision support tools and
other types of software as medical devices. Certain of our businesses involve
the development and sale of software and related products to support physician
and dental practice management, and it is possible that the FDA or foreign
government authorities could determine that one or more of our products is a
medical device that is subject to regulation, which could subject us or one or
more of our businesses to substantial additional requirements with respect to
these products.



In addition, our businesses that involve physician and dental practice
management products include electronic information technology systems that store
and process personal health, clinical, financial and other sensitive information
of individuals. These information technology systems may be vulnerable to
breakdown, wrongful intrusions, data breaches and malicious attack, which could
require us to expend significant resources to eliminate these problems and
address related security concerns, and could involve claims against us by
private parties and/or governmental agencies. For example, we are directly or
indirectly subject to numerous federal, state, local and foreign laws and
regulations that protect the privacy and security of such information, such as
the privacy and security provisions of the federal Health Insurance Portability
and Accountability Act of 1996, as amended, and implementing regulations
("HIPAA"). HIPAA requires, among other things, the implementation of various
recordkeeping, operational, notice and other practices intended to safeguard
that information, limit its use to allowed purposes and notify individuals in
the event of privacy and security breaches. Failure to comply with these laws
and regulations can result in substantial penalties and other liabilities.



In addition, the European Parliament and the Council of the European Union have
adopted a new pan-European General Data Protection Regulation ("GDPR"),
effective from May 25, 2018, which increases privacy rights for individuals in
Europe, extends the scope of responsibilities for data controllers and data
processors and imposes increased requirements and potential penalties on
companies offering goods or services to individuals who are located in Europe
("Data Subjects") or monitoring the behavior of such individuals (including by
companies based outside of Europe). Noncompliance can result in penalties of up
to the greater of EUR 20 million, or 4% of global company revenues. Individual
member states may impose additional requirements and penalties as they relate to
certain things such as employee personal data. Among other things, the GDPR
requires with respect to data concerning Data Subjects, company accountability,
consents from Data Subjects' or other acceptable legal basis needed to process
the personal data, prompt breach notifications within 72 hours, fairness and
transparency in how the personal data is stored, used or otherwise processed,
and data integrity and security, and provides rights to Data Subjects relating
to modification, erasure and transporting of the personal data. While we expect
to have substantially compliant programs and controls in place to comply with
the GDPR requirements, our compliance with the new regulation is likely to
impose additional costs on us, and we cannot predict whether the interpretations
of the requirements, or changes in our practices in response to new requirements
or interpretations of the requirements, could have a material adverse effect on
our business.



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We also sell products and services that health care providers, such as
physicians and dentists, use to store and manage patient medical or dental
records. These customers are subject to laws, regulations and industry
standards, such as HIPAA and the Payment Card Industry Data Security Standards,
which require that they protect the privacy and security of those records, and
our products may be used as part of these customers' comprehensive data security
programs, including in connection with their efforts to comply with applicable
privacy and security laws. Perceived or actual security vulnerabilities in our
products or services, or the perceived or actual failure by us or our customers
who use our products to comply with applicable legal or contractual
requirements, may not only cause us significant reputational harm, but may also
lead to claims against us by our customers and/or governmental agencies and
involve substantial fines, penalties and other liabilities and expenses and
costs for remediation.



Federal initiatives provide a program of incentive payments available to certain
health care providers involving the adoption and use of certain electronic
health care records systems and processes. The initiatives include providing,
among others, physicians and dentists, with financial incentives if they
meaningfully use certified EHR technology in accordance with applicable and
evolving requirements. In addition, Medicare-eligible providers that fail to
timely adopt certified EHR systems and meet "meaningful use" requirements for
those systems in accordance with regulatory requirements are to be subject to
cumulative Medicare reimbursement reductions, which reductions for applicable
health professionals (including physicians and dentists) began on January 1,
2015
. Qualification for the incentive payments requires the use of EHRs that
have certain capabilities for meaningful use pursuant to evolving standards
adopted by CMS and by the Office of the National Coordinator for Health
Information Technology
("ONC") of HHS.



The use of certified EHR technology will continue as a feature of MACRA's MIPS
program, and in connection with this, Medicare EHR program payment adjustments
to eligible professionals will sunset at the end of 2018 and MIPS payment
adjustments will begin on January 1, 2019. The first performance period for
MIPS began January 1, 2017, and will afford eligible clinicians different
reporting options linked to the amount of data reported and the duration of the
reporting period, with positive payment adjustments generally linked to more
robust reporting.



On October 6, 2015, CMS and ONC released comprehensive final rules with respect
to the EHR program that, among other things, established the more challenging
"Stage 3" criteria, made certain adjustments to Stage 1 and Stage 2 standards
(e.g., reducing the 2015 reporting period from a full year to 90 days), and
finalized 2015 edition health information technology (HIT) certification
criteria (which is now added to the existing 2014 edition HIT certification
criteria, but not required until 2018). Notably, under the new rules,
compliance with Stage 3 standards is optional for providers in 2017, and would
generally be required for all eligible providers (regardless of prior
participation in the EHR incentive program) for 2018 reporting periods and
subsequently. Developers and others involved in the manufacture of EHR program
technology will have this interim period to develop and certify products, and
work with customers to implement products for the 2018 EHR program period. In
connection with the release of the October 6 rules, HHS has also stated that it
will continue to modify applicable EHR program standards. On November 14, 2016,
CMS published a final rule that will impact Medicare and Medicaid EHR incentive
programs through revisions to the objectives and measures for eligible
hospitals, critical access hospitals and dual-eligible hospitals.



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Certain of our businesses involve the manufacture and sale of certified EHR
systems and other products linked to incentive programs. CMS and ONC establish
criteria for certified EHR systems, and these criteria have been subject to
change. In order to maintain certification of our EHR products, we must satisfy
these changing governmental criteria. If any of our EHR systems do not meet
these standards, yet have been relied upon by health care providers to receive
federal incentive payments, as noted above, we are exposed to risk under federal
health care fraud and abuse laws, such as the False Claims Act. For example, on
May 31, 2017, the U.S. Department of Justice announced a $155 million settlement
and 5-year corporate integrity agreement involving a vendor of certified EHR
systems, based on allegations that the vendor, by misrepresenting capabilities
to the certifying body, caused its health care provider customers to submit
false Medicare and Medicaid claims for meaningful use payments in violation of
the False Claims Act. While we believe we are substantially in compliance with
such certifications and with applicable fraud and abuse laws and regulations,
and we have adequate compliance programs and controls in place to ensure
substantial compliance, we cannot predict whether changes in applicable law, or
interpretation of laws, or changes in our practices in response to changes in
applicable law or interpretation of laws, could have a material adverse effect
on our business. Moreover, in order to satisfy our customers, our products may
need to incorporate increasingly complex reporting functionality. Although we
believe we are positioned to accomplish this, the effort may involve increased
costs, and our failure to implement product modifications, or otherwise satisfy
applicable standards, could have a material adverse effect on our business.



Other health information standards, such as regulations under HIPAA, establish
standards regarding electronic health data transmissions and transaction code
set rules for specific electronic transactions, such as transactions involving
claims submissions to third party payers. Certain of our businesses provide
electronic practice management products that must meet these requirements.
Failure to abide by electronic health data transmission standards could expose
us to breach of contract claims, substantial fines, penalties, and other
liabilities and expenses, costs for remediation and harm to our reputation.




There may be additional legislative initiatives in the future impacting health
care.






E-Commerce



Electronic commerce solutions have become an integral part of traditional health
care supply and distribution relationships. Our distribution business is
characterized by rapid technological developments and intense competition. The
continuing advancement of online commerce requires us to cost-effectively adapt
to changing technologies, to enhance existing services and to develop and
introduce a variety of new services to address the changing demands of consumers
and our customers on a timely basis, particularly in response to competitive
offerings.



Through our proprietary, technologically based suite of products, we offer
customers a variety of competitive alternatives. We believe that our tradition
of reliable service, our name recognition and large customer base built on solid
customer relationships, position us well to participate in this significant
aspect of the distribution business. We continue to explore ways and means to
improve and expand our Internet presence and capabilities, including our online
commerce offerings and our use of various social media outlets.



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Results of Operations



The following table summarizes the significant components of our operating
results for the three and nine months ended September 30, 2017 and September 24,
2016
and cash flows for the nine months ended September 30, 2017 and September
24, 2016
(in thousands):



Three Months Ended Nine Months Ended
September 30, September 24, September 30, September 24,
2017
2016 2017 2016
Operating results:
Net sales .............................................................................................................................................................................. $ 3,161,083 $ 2,865,148 $ 9,143,489 $ 8,450,734
Cost of sales ........................................................................................................................................................................ 2,325,029 2,077,473 6,645,342


6,083,748



Gross profit ...................................................................................................................................................................... 836,054 787,675 2,498,147


2,366,986



Operating expenses:



Selling, general and administrative ....................................................................................................................................... 622,506 581,584 1,879,969


1,779,583



Restructuring costs ............................................................................................................................................................ - 5,370 -


29,811



Operating income .......................................................................................................................................................... $ 213,548 $ 200,721 $ 618,178 $


557,592




Other expense, net ................................................................................................................................................................. $ (8,829) $ (4,546) $ (23,363) $


(8,731)



Net income .......................................................................................................................................................................... 150,948 145,291 450,783


402,922



Net income attributable to Henry Schein, Inc. ............................................................................................................................ 138,031 133,713 414,834


367,562




Cash flows:
Net cash provided by operating activities ............................................................................................................................................... $ 307,501 $


378,068



Net cash used in investing activities ....................................................................................................................................................... (320,795) (179,834)


Net cash provided by (used in) financing activities ...................................................................................................................................



16,068 (198,256)




Plan of Restructuring



On November 6, 2014, we announced a corporate initiative to rationalize our
operations and provide expense efficiencies, which was expected to be completed
by the end of fiscal 2015. This initiative originally planned for the
elimination of approximately 2% to 3% of our workforce and the closing of
certain facilities. We subsequently announced our plan to extend these
restructuring activities through the end of 2016 to further implement
cost-savings initiatives, which ultimately resulted in the elimination of
approximately 900 positions, representing 4% of our workforce. We recorded
restructuring costs of $34.9 million pre-tax in fiscal 2015 and $45.9 million
pre-tax in fiscal 2016. Our restructuring activities are complete and we do not
expect to report any such charges in 2017.




During the three and nine months ended September 24, 2016, we recorded
restructuring costs of $5.4 million and $29.8 million, respectively. The costs
associated with this restructuring are included in a separate line item,
"Restructuring costs" within our consolidated statements of income.




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Three Months Ended September 30, 2017 Compared to Three Months Ended September
24, 2016






Net Sales




Net sales for the three months ended September 30, 2017 and September 24, 2016
were as follows (in thousands):






September 30, % of September 24, % of Increase
2017



Total 2016 Total $ %
Health care distribution (1):



Dental



............................................................................................................................................................................................



$ 1,478,730 46.8 % $ 1,330,525 46.4 % $ 148,205 11.1 %



Animal health ................................................................................................................................................................................... 882,580 27.9 790,279 27.6 92,301


11.7



Medical



..........................................................................................................................................................................................


690,761 21.9 639,648 22.3 51,113


8.0



Total health care distribution .............................................................................................................................................................. 3,052,071 96.6 2,760,452 96.3 291,619


10.6



Technology and value-added services (2)....................................................................................................................................................... 109,012 3.4 104,696 3.7


4,316 4.1



Total



.........................................................................................................................................................................................



$ 3,161,083 100.0 % $ 2,865,148 100.0 % $ 295,935 10.3



(1) Consists of consumable products, small equipment, laboratory products, large equipment, equipment repair services, branded and



generic pharmaceuticals, vaccines, surgical products, diagnostic tests, infection-control products and vitamins.



(2) Consists of practice management software and other value-added products, which are distributed primarily to health care providers,



and financial services on a non-recourse basis, e-services, continuing education services for practitioners, consulting and other



services.




The $295.9 million, or 10.3%, increase in net sales for the three months ended
September 30, 2017 includes 8.8% local currency growth (4.8% increase in
internally generated revenue and 4.0% growth from acquisitions) as well as an
increase of 1.5% related to foreign currency exchange. We have estimated that
our total increase in internally generated revenue was negatively affected by
approximately 0.3% due to the hurricanes that occurred in North America during
the quarter.



The $148.2 million, or 11.1%, increase in dental net sales for the three months
ended September 30, 2017 includes 9.1% local currency growth (1.6% increase in
internally generated revenue and 7.5% growth from acquisitions) as well as an
increase of 2.0% related to foreign currency exchange. The 9.1% local currency
growth was due to an increase in dental consumable merchandise sales of 12.0%
(2.0% increase in internally generated revenue and 10.0% growth from
acquisitions), as well as an increase in dental equipment sales and service
revenues of 0.6% (0.5% increase in internally generated revenue and 0.1% growth
from acquisitions). We have estimated that our increase in internally generated
dental revenue was negatively affected by approximately 0.4% due to the
hurricanes that occurred in North America during the quarter.



The $92.3 million, or 11.7%, increase in animal health net sales for the three
months ended September 30, 2017 includes 9.9% local currency growth (8.0%
increase in internally generated revenue and 1.9% growth from acquisitions) as
well as an increase of 1.8% related to foreign currency exchange. The growth in
internally generated animal health revenue is affected by the revenue for
certain products being recognized on a gross basis in 2017 that had been
recognized on an agency basis in the prior year. When excluding the effects of
this change, internally generated revenue grew by 7.8%. We have estimated that
our increase in internally generated animal health revenue was negatively
affected by approximately 0.2% due to the hurricanes that occurred in North
America
during the quarter.



The $51.1 million, or 8.0%, increase in medical net sales for the three
months ended September 30, 2017 includes 7.9% local currency growth (7.8%
increase in internally generated revenue and 0.1% growth from acquisitions) as
well as an increase of 0.1% related to foreign currency exchange. We have
estimated that our increase in internally generated medical revenue was
negatively affected by approximately 0.2% due to the hurricanes that occurred in
North America during the quarter.



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The $4.3 million, or 4.1%, increase in technology and value-added services net
sales for the three months ended September 30, 2017 includes 3.7% local currency
growth (3.0% internally generated revenue and 0.7% growth from acquisitions) as
well as an increase of 0.4% related to foreign currency exchange. We believe
that our internally generated technology and value-added services revenue was
not meaningfully affected by the hurricanes that occurred in North America
during the quarter.



Gross Profit



Gross profit and gross margin percentages by segment and in total for the three
months ended September 30, 2017 and September 24, 2016 were as follows (in
thousands):



September 30, Gross September 24, Gross Increase
2017 Margin % 2016 Margin % $ %
Health care distribution ........................................................................................................................................................................ $ 765,528 25.1 % $ 719,255 26.1 % $ 46,273 6.4 %
Technology and value-added services ....................................................................................................................................................... 70,526 64.7 68,420 65.4


2,106 3.1



Total



.........................................................................................................................................................................................



$ 836,054 26.4 $ 787,675 27.5 $ 48,379 6.1




Gross profit increased $48.4 million, or 6.1% for the three months ended
September 30, 2017, compared to the prior year period. As a result of different
practices of categorizing costs associated with distribution networks throughout
our industry, our gross margins may not necessarily be comparable to other
distribution companies. Additionally, we realize substantially higher gross
margin percentages in our technology segment than in our health care
distribution segment. These higher gross margins result from being both the
developer and seller of software products and services, as well as certain
financial services. The software industry typically realizes higher gross
margins to recover investments in research and development.



Within our health care distribution segment, gross profit margins may vary from
one period to the next. Changes in the mix of products sold as well as changes
in our customer mix have been the most significant drivers affecting our gross
profit margin. For example, sales of pharmaceutical products are generally at
lower gross profit margins than other products. Conversely, sales of our private
label products achieve gross profit margins that are higher than average. With
respect to customer mix, sales to our large-group customers are typically
completed at lower gross margins due to the higher volumes sold as opposed to
the gross margin on sales to office-based practitioners who normally purchase
lower volumes at greater frequencies.



Health care distribution gross profit increased $46.3 million, or 6.4%, for the
three months ended September 30, 2017 compared to the prior year period. Health
care distribution gross profit margin decreased to 25.1% for the three months
ended September 30, 2017 from 26.1% for the comparable prior year period. The
decline in gross profit margin was attributable to lower margins experienced in
each of our operating segments within the health care distribution segment.


Our



lower margin medical and animal health businesses have been growing at a faster
rate than our higher margin dental product sales, resulting in overall gross
profit margins being impacted. As a result of extending multi-year contracts
with key Dental Support Organizations, our gross profit margins have been
negatively impacted. Our gross profit margins were also negatively impacted by
our European dental business, particularly in Germany. The overall increase in
our health care distribution gross profit is attributable to a $39.4 million
gross profit increase from growth in internally generated revenue and $33.7
million
is attributable to acquisitions. These increases were partially offset
by a $26.8 million decline in gross profit due primarily to the effects of
foreign exchange on revenues and the decrease in the gross margin rates.



Technology and value-added services gross profit increased $2.1 million, or
3.1%, for the three months ended September 30, 2017 compared to the prior year
period. Technology and value-added services gross profit margin decreased to
64.7% for the three months ended September 30, 2017 from 65.4% for the
comparable prior year period. The increase in gross profit in our technology and
value-added services segment was attributable to $1.4 million of growth in
internally generated revenue. Acquisitions accounted for the remaining $0.7
million
increase of gross profit increase within our technology and value-added
services segment for the three months ended September 30, 2017 compared to the
prior year period.

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Selling, General and Administrative






Selling, general and administrative expenses by segment and in total for the
three months ended September 30, 2017 and September 24, 2016 were as follows (in
thousands):



% of % of
September 30, Respective September 24, Respective Increase
2017 Net Sales 2016 Net Sales $ %
Health care distribution ....................................................................................................................................................................... $ 583,915 19.1 % $ 543,771 19.7 % $ 40,144 7.4 %
Technology and value-added services ...................................................................................................................................................... 38,591 35.4 37,813 36.1


778 2.1



Total ........................................................................................................................................................................................ $ 622,506 19.7 $ 581,584 20.3 $ 40,922 7.0




Selling, general and administrative expenses increased $40.9 million, or 7.0%,
to $622.5 million for the three months ended September 30, 2017 from the
comparable prior year period. The $40.1 million increase in selling, general
and administrative expenses within our health care distribution segment for the
three months ended September 30, 2017 as compared to the prior year period was
attributable to $26.7 million of additional costs from acquired companies, and
$13.4 million of additional operating costs. As a percentage of net sales,
selling, general and administrative expenses decreased to 19.7% from 20.3% for
the comparable prior year period.



As a component of total selling, general and administrative expenses, selling
expenses increased $22.8 million, or 6.3% to $385.7 million, for the three
months ended September 30, 2017 from the comparable prior year period. As a
percentage of net sales, selling expenses decreased to 12.2% from 12.7% for the
comparable prior year period.



As a component of total selling, general and administrative expenses, general
and administrative expenses increased $18.1 million, or 8.3% to $236.8 million,
for the three months ended September 30, 2017 from the comparable prior year
period. As a percentage of net sales, general and administrative expenses
decreased to 7.5% from 7.6% for the comparable prior year period.



Other Expense, Net




Other expense, net, for the three months ended September 30, 2017 and September
24, 2016
was as follows (in thousands):






September 30, September 24, Variance
2017 2016 $ %
Interest income ........................................................................................................................................................................


$ 4,793 $ 3,141 $ 1,652 52.6 %
Interest expense .......................................................................................................................................................................


(13,428) (7,488) (5,940) (79.3)
Other, net .............................................................................................................................................................................. (194) (199) 5 2.5
Other expense, net ............................................................................................................................................................. $ (8,829) $ (4,546) $ (4,283) (94.2)




Other expense, net increased $4.3 million to $8.8 million for the three months
ended September 30, 2017 from the comparable prior year period. Interest income
increased by $1.7 million primarily due to increased investment and late fee
income. Interest expense increased $5.9 million primarily due to increased
borrowings and higher interest rates under our bank credit lines and interest
expense related to a financing arrangement entered into during the first quarter
of 2017 in Brazil.



Income Taxes



For the three months ended September 30, 2017, our effective tax rate was 29.0%
compared to 28.9% for the prior year period. The difference between our
effective tax rates and the federal statutory tax rates primarily relates to
state and foreign income taxes and interest expense.



Net Income




Net income increased $5.7 million, or 3.9%, for the three months ended September
30, 2017
, compared to the prior year period due to the factors noted above.




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Nine Months Ended September 30, 2017 Compared to Nine Months Ended September 24,
2016






Net Sales




Net sales for the nine months ended September 30, 2017 and September 24, 2016
were as follows (in thousands):






September 30, % of September 24, % of Increase
2017



Total 2016 Total $ %
Health care distribution (1):



Dental



............................................................................................................................................................................................



$ 4,372,055 47.8 % $ 4,005,468 47.4 % $ 366,587 9.2 %



Animal health ................................................................................................................................................................................... 2,586,850 28.3 2,415,290 28.6 171,560


7.1



Medical



..........................................................................................................................................................................................


1,861,074 20.4 1,716,590 20.3 144,484


8.4



Total health care distribution .............................................................................................................................................................. 8,819,979 96.5 8,137,348 96.3 682,631


8.4



Technology and value-added services (2)....................................................................................................................................................... 323,510 3.5 313,386 3.7


10,124 3.2



Total



.........................................................................................................................................................................................



$ 9,143,489 100.0 % $ 8,450,734 100.0 % $ 692,755 8.2



(1) Consists of consumable products, small equipment, laboratory products, large equipment, equipment repair services, branded and



generic pharmaceuticals, vaccines, surgical products, diagnostic tests, infection-control products and vitamins.



(2) Consists of practice management software and other value-added products, which are distributed primarily to health care providers,



and financial services on a non-recourse basis, e-services, continuing education services for practitioners, consulting and other



services.




The $692.8 million, or 8.2%, increase in net sales for the nine months ended
September 30, 2017 includes an increase of 8.4% in local currency growth (5.0%
increase in internally generated revenue and 3.4% growth from acquisitions)
partially offset by a decrease of 0.2% related to foreign currency exchange.



The $366.6 million, or 9.2%, increase in dental net sales for the nine months
ended September 30, 2017 includes an increase of 8.9% in local currency growth
(2.6% increase in internally generated revenue and 6.3% growth from
acquisitions) as well as an increase of 0.3% related to foreign currency
exchange. The 8.9% increase in local currency sales was due to an increase in
dental consumable merchandise sales growth of 10.5% (2.4% increase in internally
generated revenue and 8.1% growth from acquisitions), as well as an increase in
dental equipment sales and service revenues of 3.6% (3.0% increase in internally
generated revenue and 0.6% growth from acquisitions).



The $171.6 million, or 7.1%, increase in animal health net sales for the nine
months ended September 30, 2017 includes an increase of 8.2% in local currency
growth (6.9% internally generated revenue and 1.3% growth from acquisitions)
partially offset by a decrease of 1.1% related to foreign currency exchange.
The growth in internally generated animal health revenue is affected by the
revenue for certain products being recognized on a gross basis in 2017 that had
been recognized on an agency basis in the prior year. When excluding the
effects of this change, internally generated revenue grew by 6.6%.



The $144.5 million, or 8.4%, increase in medical net sales for the nine months
ended September 30, 2017 is the result of an increase of 8.5% in local currency
growth (8.4% increase in internally generated revenue and 0.1% growth from
acquisitions) partially offset by a decrease of 0.1% related to foreign currency
exchange.



The $10.1 million, or 3.2%, increase in technology and value-added services net
sales for the nine months ended September 30, 2017 includes an increase of 4.0%
in local currency growth (3.6% internally generated revenue and 0.4% growth from
acquisitions) partially offset by a decrease of 0.8% related to foreign currency
exchange.

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Gross Profit



Gross profit and gross margin percentages by segment and in total for the nine
months ended September 30, 2017 and September 24, 2016 were as follows (in
thousands):



September 30, Gross September 24, Gross Increase
2017 Margin % 2016 Margin % $ %
Health care distribution ........................................................................................................................................................................


$ 2,286,863 25.9 % $ 2,163,217 26.6 % $ 123,646


5.7 %
Technology and value-added services ....................................................................................................................................................... 211,284 65.3 203,769 65.0


7,515 3.7



Total



.........................................................................................................................................................................................



$ 2,498,147 27.3 $ 2,366,986 28.0 $ 131,161 5.5




For the nine months ended September 30, 2017, gross profit increased $131.2
million
, or 5.5%, from the comparable prior year period. As a result of
different practices of categorizing costs associated with distribution networks
throughout our industry, our gross margins may not necessarily be comparable to
other distribution companies. Additionally, we realize substantially higher
gross margin percentages in our technology segment than in our health care
distribution segment. These higher gross margins result from being both the
developer and seller of software products and services, as well as certain
financial services. The software industry typically realizes higher gross
margins to recover investments in research and development.



Within our health care distribution segment, gross profit margins may vary from
one period to the next. Changes in the mix of products sold as well as changes
in our customer mix have been the most significant drivers affecting our gross
profit margin. For example, sales of pharmaceutical products are generally at
lower gross profit margins than other products. Conversely, sales of our
private label products achieve gross profit margins that are higher than
average. With respect to customer mix, sales to our large-group customers are
typically completed at lower gross margins due to the higher volumes sold as
opposed to the gross margin on sales to office-based practitioners who normally
purchase lower volumes at greater frequencies.



Health care distribution gross profit increased $123.6 million, or 5.7%, for the
nine months ended September 30, 2017 compared to the prior year period. Health
care distribution gross profit margin decreased to 25.9% for the nine months
ended September 30, 2017 from 26.6% for the comparable prior year period. The
decline in gross profit margin was attributable to lower margins experienced in
each of our operating segments within the health care distribution segment.


Our



lower margin medical and animal health businesses have been growing at a faster
rate than our higher margin dental product sales, resulting in overall gross
profit margins being impacted. As a result of extending multi-year contracts
with key Dental Support Organizations, our gross profit margins have been
negatively impacted. Our gross profit margins were also negatively impacted by
our European dental business, particularly in Germany. The overall increase in
our health care distribution gross profit is attributable to a $86.8 million
gross profit increase from growth in internally generated revenue and $91.6
million
is attributable to acquisitions. These increases were partially offset
by a $54.8 million decline in gross profit due primarily to the effects of
foreign exchange on revenues and the decrease in the gross margin rates.



Technology and value-added services gross profit increased $7.5 million, or
3.7%, for the nine months ended September 30, 2017 compared to the prior year
period. Technology gross profit margin increased to 65.3% for the nine months
ended September 30, 2017 from 65.0% for the comparable prior year period. The
increase in gross profit in our technology and value-added services segment was
attributable to $6.3 million growth in internally generated revenue.
Acquisitions accounted for the remaining $1.2 million increase of gross profit
within our technology and value-added services segment for the nine months ended
September 30, 2017 compared to the prior year period.

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Selling, General and Administrative






Selling, general and administrative expenses by segment and in total for the
nine months ended September 30, 2017 and September 24, 2016 were as follows (in
thousands):





% of % of
September 30, Respective September 24, Respective Increase
2017 Net Sales



2016 Net Sales $ %
Health care distribution ........................................................................................................................................................................


$ 1,765,585 20.0 % $ 1,665,644 20.5 % $ 99,941 6.0 %
Technology and value-added services ....................................................................................................................................................... 114,384 35.4 113,939 36.4


445 0.4



Total



.........................................................................................................................................................................................



$ 1,879,969 20.6 $ 1,779,583 21.1 $ 100,386 5.6




Selling, general and administrative expenses increased $100.4 million, or 5.6%,
to $1,880.0 million for the nine months ended September 30, 2017 from the
comparable prior year period. The $99.9 million increase in selling, general
and administrative expenses within our health care distribution segment for the
nine months ended September 30, 2017 as compared to the prior year period was
attributable to $79.9 million of additional costs from acquired companies, and
$20.0 million of additional operating costs. As a percentage of net sales,
selling, general and administrative expenses decreased to 20.6% from 21.1% for
the comparable prior year period.



As a component of selling, general and administrative expenses, selling expenses
increased $42.0 million, or 3.8%, to $1,146.2 million for the nine months ended
September 30, 2017 from the comparable prior year period. As a percentage of
net sales, selling expenses decreased to 12.5% as compared to 13.1% for the
comparable prior year period.



As a component of selling, general and administrative expenses, general and
administrative expenses increased $58.4 million, or 8.7%, to $733.8 million for
the nine months ended September 30, 2017 from the comparable prior year period.
As a percentage of net sales, general and administrative expenses remained
consistent at 8.0%.



Other Expense, Net




Other expense, net, for the nine months ended September 30, 2017 and September
24, 2016
was as follows (in thousands):






September 30, September 24, Variance
2017 2016 $ %
Interest income ........................................................................................................................................................................


$ 13,204 $ 10,045 $ 3,159 31.4 %
Interest expense .......................................................................................................................................................................


(37,056) (21,982) (15,074) (68.6)
Other, net .............................................................................................................................................................................. 489 3,206 (2,717) (84.7)
Other expense, net ............................................................................................................................................................. $ (23,363) $ (8,731) $ (14,632) (167.6)




Other expense, net increased $14.6 million to $23.4 million for the nine months
ended September 30, 2017 from the comparable prior year period. Interest income
increased $3.2 million primarily due to increased investment and late fee
income. Interest expense increased $15.1 million primarily due to increased
borrowings and higher interest rates under our bank credit lines and interest
expense related to a financing arrangement entered into during the first quarter
of 2017 in Brazil. Other, net decreased by $2.7 million primarily due to
investment proceeds received in the first quarter of 2016.



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Income Taxes



For the nine months ended September 30, 2017 and September 24, 2016, our
effective tax rate was 26.3% and 29.0%. The difference between our effective
tax rate and the federal statutory tax rate for both periods primarily relates
to the adoption of Accounting Standards Update No. 2016-09, "Stock Compensation"
(Topic 718) in the first quarter of 2017, as well as state and foreign income
taxes and interest expense for both periods. See Note 10 "Income Taxes" in the
Notes to Consolidated Financial Statements. The 2016 effective tax rate was
further affected by a federal tax audit settlement which reduced our income tax
expense by approximately $4.5 million in the period.



Net Income




Net income increased $47.9 million, or 11.9%, for the nine months ended
September 30, 2017, compared to the prior year period due to the factors noted
above.



Liquidity and Capital Resources






Our principal capital requirements include funding of acquisitions, purchases of
additional noncontrolling interests, repayments of debt principal, the funding
of working capital needs, purchases of fixed assets and repurchases of common
stock. Working capital requirements generally result from increased sales,
special inventory forward buy-in opportunities and payment terms for receivables
and payables. Historically, sales have tended to be stronger during the third
and fourth quarters and special inventory forward buy-in opportunities have been
most prevalent just before the end of the year, which has caused our working
capital requirements to be higher from the end of the third quarter to the end
of the first quarter of the following year.



We finance our business primarily through cash generated from our operations,
revolving credit facilities and debt placements. Our ability to generate
sufficient cash flows from operations is dependent on the continued demand of
our customers for our products and services, and access to products and services
from our suppliers.



Our business requires a substantial investment in working capital, which is
susceptible to fluctuations during the year as a result of inventory purchase
patterns and seasonal demands. Inventory purchase activity is a function of
sales activity, special inventory forward buy-in opportunities and our desired
level of inventory. We anticipate future increases in our working capital
requirements.



We finance our business to provide adequate funding for at least 12
months. Funding requirements are based on forecasted profitability and working
capital needs, which, on occasion, may change. Consequently, we may change our
funding structure to reflect any new requirements.



We believe that our cash and cash equivalents, our ability to access private
debt markets and public equity markets, and our available funds under existing
credit facilities provide us with sufficient liquidity to meet our currently
foreseeable short-term and long-term capital needs. We have no off-balance sheet
arrangements.



Net cash provided by operating activities was $307.5 million for the nine months
ended September 30, 2017, compared to $378.1 million for the comparable prior
year period. The net change of $70.6 million was primarily attributable to
changes in net working capital, partially offset by an increase in net income.



Net cash used in investing activities was $320.8 million for the nine months
ended September 30, 2017, compared to $179.8 million for the comparable prior
year period. The net change of $141.0 million was primarily due to increased
payments for equity investments and business acquisitions.



Net cash provided by financing activities was $16.1 million for the nine months
ended September 30, 2017, compared to net cash used in financing activities of
$198.3 million for the comparable prior year period. The net change of $214.4
million
was primarily due to increased net borrowings from debt, decreased
repurchases of common stock and decreased acquisitions of noncontrolling
interests in subsidiaries.

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The following table summarizes selected measures of liquidity and capital
resources (in thousands):



September 30, December 31,
2017
2016
Cash and cash equivalents ........................................................................................................................................................... $ 79,879 $ 62,381
Working capital .......................................................................................................................................................................... 1,345,382 1,022,134


Debt:



Bank credit lines .....................................................................................................................................................................


$ 631,865 $ 437,476



Current maturities of long-term debt ........................................................................................................................................... 17,247 65,923
Long-term debt ...................................................................................................................................................................... 907,592 715,457
Total debt ......................................................................................................................................................................... $ 1,556,704 $ 1,218,856





Our cash and cash equivalents consist of bank balances and investments in money
market funds representing overnight investments with a high degree of liquidity.



Accounts receivable days sales outstanding and inventory turns






Our accounts receivable days sales outstanding from operations decreased to 41.7
days as of September 30, 2017 from 41.9 days as of September 24, 2016. During
the nine months ended September 30, 2017, we wrote off approximately $5.8
million
of fully reserved accounts receivable against our trade receivable
reserve. Our inventory turns from operations remained consistent at 5.4 as of
September 30, 2017 compared to comparable prior year period. Our working
capital accounts may be impacted by current and future economic conditions.



Bank Credit Lines



On April 18, 2017, we entered into a new $750 million revolving agreement (the
"Credit Agreement"). This facility, which matures in April 2022, replaced our
$500 million revolving credit facility, which was scheduled to mature in
September 2019. The interest rate is based on the USD LIBOR plus a spread based
on our leverage ratio at the end of each financial reporting quarter. The Credit
Agreement provides, among other things, that we are required to maintain maximum
leverage ratios, and contains customary representations, warranties and
affirmative covenants. The Credit Agreement also contains customary negative
covenants, subject to negotiated exceptions on liens, indebtedness, significant
corporate changes (including mergers), dispositions and certain restrictive
agreements. As of September 30, 2017 and December 31, 2016, the borrowings on
this revolving credit facility and the prior credit facility were $175.0 million
and $65.0 million, respectively. As of September 30, 2017 and December 31,
2016
, there were $11.7 million and $13.0 million of letters of credit,
respectively, provided to third parties under the credit facility and the prior
credit facility.



As of September 30, 2017 and December 31, 2016, we had various other short-term
bank credit lines available, of which $456.9 million and $372.5 million,
respectively, were outstanding. At September 30, 2017 and December 31, 2016,
borrowings under all of our credit lines had a weighted average interest rate of
2.09% and 1.61%, respectively.

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Private Placement Facilities



On September 15, 2017, we increased our available private placement facilities
with three insurance companies to a total facility amount of $1 billion, and
extended the expiration date to September 15, 2020. These facilities are
available on an uncommitted basis at fixed rate economic terms to be agreed upon
at the time of issuance, from time to time through September 15, 2020. The
facilities allow us to issue senior promissory notes to the lenders at a fixed
rate based on an agreed upon spread over applicable treasury notes at the time
of issuance. The term of each possible issuance will be selected by us and can
range from five to 15 years (with an average life no longer than 12 years). The
proceeds of any issuances under the facilities will be used for general
corporate purposes, including working capital and capital expenditures, to
refinance existing indebtedness and/or to fund potential acquisitions. The
agreements provide, among other things, that we maintain certain maximum
leverage ratios, and contain restrictions relating to subsidiary indebtedness,
liens, affiliate transactions, disposal of assets and certain changes in
ownership. These facilities contain make-whole provisions in the event that we
pay off the facilities prior to the applicable due dates.




The components of our private placement facility borrowings as of September 30,
2017
are presented in the following table (in thousands):






Amount of
Borrowing Borrowing
Date of Borrowing Outstanding Rate Due Date
September 2, 2010 $ 100,000 3.79 % September 2, 2020
January 20, 2012 50,000 3.45 January 20, 2024
January 20, 2012 (1) 35,714 3.09 January 20, 2022
December 24, 2012 50,000 3.00 December 24, 2024
June 2, 2014 100,000 3.19 June 2, 2021
June 16, 2017 100,000 3.42 June 16, 2027
September 15, 2017 100,000 3.52 September 15, 2029
Less: Deferred debt issuance costs (250)
$ 535,464



(1) Annual repayments of approximately $7.1 million for this borrowing commenced on January 20, 2016.



U.S. Trade Accounts Receivable Securitization






We have a facility agreement with a bank, as agent, based on the securitization
of our U.S. trade accounts receivable that is structured as an asset-backed
securitization program with pricing committed for up to three years. On June 1,
2016
, we extended the expiration date of this facility agreement to April 29,
2019
and increased the purchase limit under the facility from $300 million to
$350 million. On July 6, 2017, we extended the expiration date of this facility
agreement to April 29, 2020. The borrowings outstanding under this
securitization facility were $350.0 million and $350.0 million as of September
30, 2017
and December 31, 2016, respectively. At September 30, 2017, the
interest rate on borrowings under this facility was based on the asset-backed
commercial paper rate of 134 basis points plus 75 basis points, for a combined
rate of 2.09%. At December 31, 2016, the interest rate on borrowings under this
facility was based on the asset-backed commercial paper rate of 101 basis points
plus 75 basis points, for a combined rate of 1.76%.



We are required to pay a commitment fee of 30 basis points on the daily balance
of the unused portion of the facility if our usage is greater than or equal to
50% of the facility limit or a commitment fee of 35 basis points on the daily
balance of the unused portion of the facility if our usage is less than 50% of
the facility limit.




Borrowings under this facility are presented as a component of Long-term debt
within our consolidated balance sheet.






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Long-term debt




Long-term debt consisted of the following:






September 30, December 31,
2017
2016
Private placement facilities .......................................................................................................................................................... $ 535,464 $ 342,857
U.S. trade accounts receivable securitization ................................................................................................................................... 350,000 350,000


Note payable to bank at a weighted-average interest rate of



21.37% at December 31, 2016................................................................................................................................................... - 47,957


Various collateralized and uncollateralized loans payable with



interest, in varying installments through 2022 at interest rates



ranging from 2.56% to 12.90% at September 30, 2017 and



ranging from 2.56% to 12.90% at December 31, 2016.................................................................................................................... 33,994 35,150


Capital lease obligations payable through 2029 with interest rates



ranging from 0.84% to 19.79% at September 30, 2017 and



ranging from 1.38% to 19.15% at December 31, 2016.................................................................................................................... 5,381 5,416


Total



.......................................................................................................................................................................................


924,839 781,380
Less current maturities ................................................................................................................................................................ (17,247) (65,923)
Total long-term debt ............................................................................................................................................................. $ 907,592 $ 715,457





Stock Repurchases




From June 21, 2004 through September 30, 2017, we repurchased $2.5 billion, or
52,431,816 shares, under our common stock repurchase programs, with $425.0
million
available as of September 30, 2017 for future common stock share
repurchases.



On September 15, 2017, our Board of Directors authorized the repurchase of up to
an additional $400.0 million in shares of our common stock.



Redeemable Noncontrolling Interests






Some minority shareholders in certain of our subsidiaries have the right, at
certain times, to require us to acquire their ownership interest in those
entities at fair value. Accounting Standards Codification Topic 480-10 is
applicable for noncontrolling interests where we are or may be required to
purchase all or a portion of the outstanding interest in a consolidated
subsidiary from the noncontrolling interest holder under the terms of a put
option contained in contractual agreements. The components of the change in the
Redeemable noncontrolling interests for the nine months ended September 30, 2017
and the year ended December 31, 2016 are presented in the following table:



September 30, December 31,
2017
2016
Balance, beginning of period .................................................................................................................................................. $ 607,636 $ 542,194
Decrease in redeemable noncontrolling interests due to


redemptions



....................................................................................................................................................................


(40,638) (72,729)


Increase in redeemable noncontrolling interests due to



business



acquisitions.........................................................................................................................................................


25,209 58,172


Net income attributable to redeemable noncontrolling interests .....................................................................................................


35,398 48,760
Dividends declared ............................................................................................................................................................... (22,566) (32,973)


Effect of foreign currency translation gain (loss) attributable to



redeemable noncontrolling interests ..................................................................................................................................... 7,961 (2,652)
Change in fair value of redeemable securities ............................................................................................................................ 124,747 66,864
Balance, end of period .......................................................................................................................................................... $ 737,747 $ 607,636




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Changes in the estimated redemption amounts of the noncontrolling interests
subject to put options are adjusted at each reporting period with a
corresponding adjustment to Additional paid-in capital. Future reductions in the
carrying amounts are subject to a floor amount that is equal to the fair value
of the redeemable noncontrolling interests at the time they were originally
recorded. The recorded value of the redeemable noncontrolling interests cannot
go below the floor level. These adjustments do not impact the calculation of
earnings per share.



Additionally, some prior owners of such acquired subsidiaries are eligible to
receive additional purchase price cash consideration if certain financial
targets are met. Any adjustments to these accrual amounts are recorded in our
consolidated statement of income.




Critical Accounting Policies and Estimates



There have been no material changes in our critical accounting policies and
estimates from those disclosed in Item 7 of our Annual Report on Form 10-K for
the year ended December 31, 2016.



Accounting Pronouncement Adopted






In March 2016, the Financial Accounting Standard Board ("FASB") issued
Accounting Standards Update ("ASU") No. 2016-09, "Stock Compensation" (Topic
718) ("ASU 2016-09"). ASU 2016-09 contains amended guidance for share-based
payment accounting. We adopted the provisions of this standard during the first
quarter of 2017.



Under ASU 2016-09, all excess tax benefits and tax deficiencies resulting from
the difference between the deduction for tax purposes and the stock-based
compensation cost recognized for financial reporting purposes are included as a
component of income tax expense as of January 1, 2017. Prior to the
implementation of ASU 2016-09, excess tax benefits were recorded as a component
of additional paid in capital and tax deficiencies were recognized either as an
offset to accumulated excess tax benefits or in the income statement if there
were no accumulated excess tax benefits. The adoption of ASU 2016-09 reduced
income tax expense by approximately $19.5 million for the nine months ended
September 30, 2017.



The ASU clarifies the classification of certain share based payment activities
within the statements of cash flow. We have elected to prospectively present
the amount of excess tax benefits related to stock compensation as a component
of cash flow from operating activities. Additionally, classification of all
cash payments made to taxing authorities on an employees' behalf when directly
withholding shares for tax-withholding purposes, which was previously included
as cash flows from operating activities, is now presented retrospectively as
cash flows from financing activities within the statement of cash flows.



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Recently Issued Accounting Standards






In May 2014, the FASB issued ASU No. 2014-09, "Revenue from Contracts with
Customers" ("ASU 2014-09"), which supersedes nearly all existing revenue
recognition guidance under accounting principles generally accepted in United
States
("U.S. GAAP"). The core principle of ASU 2014-09 is to recognize revenues
when promised goods or services are transferred to customers in an amount that
reflects the consideration to which an entity expects to be entitled for those
goods or services. ASU 2014-09 defines a five step process to achieve this core
principle and, in doing so, more judgment and estimates may be required within
the revenue recognition process than are required under existing U.S. GAAP.



In August 2015, the FASB issued ASU No. 2015-14, "Revenue from Contracts with
Customers", which deferred the effective date by one year to December 15, 2017
for interim and annual reporting periods beginning after that date. Early
adoption is permitted only as of annual reporting periods beginning after
December 15, 2016, including interim reporting periods within that reporting
period.



When effective, ASU 2014-09 will require us to use either of the following
transition methods: (i) a full retrospective approach reflecting the application
of the standard in each prior reporting period with the option to elect certain
practical expedients; or (ii) a retrospective approach with the cumulative
effect of initially adopting ASU 2014-09 recognized at the date of adoption
(which includes additional footnote disclosures).



Currently, we are nearing completion of our review of our various revenue
streams within our two reportable segments: (i) health care distribution and
(ii) technology and value-added services. We have gathered data to quantify the
amount of sales by type of revenue stream and categorized the types of sales for
our business units for the purpose of comparing how we currently recognize
revenue to the new standard in order to quantify the impact of this ASU. We
generally anticipate having substantially similar performance obligations under
the new guidance as compared with deliverables and units of account currently
being recognized. We intend to make policy elections within the amended standard
that are consistent with our current accounting.



At this time, we believe that the largest impact of this ASU will occur within
our technology and value-added services reportable segment. However, we do not
currently believe that the impact will be material to this segment or to our
consolidated financial statements.




This preliminary assessment is subject to change prior to adoption. We
anticipate adopting this amended standard on a modified retrospective basis in
our first quarter of 2018.






In February 2016, the FASB issued ASU No. 2016-02, "Leases" (Topic 842) ("ASU
2016-02"). ASU 2016-02 contains guidance on accounting for leases and requires
that most lease assets and liabilities and the associated rights and obligations
be recognized on the Company's balance sheet. ASU 2016-02 focuses on lease
assets and lease liabilities by lessees classified as operating leases under
previous generally accepted accounting principles. For leases with a term of 12
months or less, a lessee is permitted to make an accounting policy election by
class of underlying asset not to recognize lease assets and lease liabilities.
ASU 2016-02 will require disclosures regarding the amount, timing and
uncertainty of cash flows arising from leases. The standard, which requires the
use of a modified retrospective approach, will be effective for interim and
annual periods beginning after December 15, 2018. Early adoption is permitted.
We are currently exploring the methods we can use to gather and process our
operating lease data at a worldwide consolidated level.



In January 2017, the FASB issued ASU No. 2017-04, "Intangibles-Goodwill and
Other" (Topic 350) ("ASU 2017-04"). ASU 2017-04 eliminates step two from the
goodwill impairment test, thereby eliminating the requirement to calculate the
implied fair value of a reporting unit. ASU 2017-04 will require us to perform
our annual goodwill impairment test by comparing the fair value of our reporting
units to the carrying value of those units. If the carrying value exceeds the
fair value, we will be required to recognize an impairment charge; however, the
impairment charge should not exceed the amount of goodwill allocated to such
reporting unit. ASU 2017-04 is required to be implemented on a prospective
basis for fiscal years beginning after December 15, 2019. We do not expect that
the requirements of ASU 2017-04 will have a material impact on our consolidated
financial statements.

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In May 2017, the FASB issued ASU No. 2017-09, "Compensation-Stock Compensation
(Topic 718), Scope of Modification Accounting" ("ASU 2017-09"). ASU 2017-09
clarifies guidance on determining which changes to the terms and conditions of
share-based payment awards require an entity to apply modification accounting.
ASU 2017-09 requires modification accounting if the fair value, vesting
conditions, or equity or liability classification of the award is not the same
immediately before and after a change to the terms and conditions of the award.
ASU 2017-09 is required to be implemented on a prospective basis for fiscal
years beginning after December 15, 2017. We do not expect that the requirements
of ASU 2017-09 will have a material impact on our consolidated financial
statements.



In August 2017, the FASB issued ASU No. 2017-12, "Derivatives and Hedging"
(Topic 815) ("ASU 2017-12"), which simplifies the requirements for hedge
accounting, more closely aligns hedge accounting with risk management activities
and increases transparency of the scope and results of hedging activities. This
ASU amends the presentation and disclosure requirements and changes how we can
assess the effectiveness of our hedging relationships. This ASU will make more
financial and nonfinancial hedging strategies eligible for hedge accounting.
ASU 2017-12 is required to be implemented for fiscal years beginning after
December 15, 2018, and interim periods within those fiscal years. Early
adoption of ASU 2017-12 is permitted in any interim period after the issuance of
this ASU. We do not expect that the requirements of ASU 2017-12 will have a
material impact on our consolidated financial statements.

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