美國雅培 (ABT) 2002 Q3 法說會逐字稿

Good afternoon, and welcome to TheraSense's Third Quarter 2002 Conference Call. As a reminder, today's conference is being recorded. I will now turn the conference over to Mark Lortz, Chairman and CEO of TheraSense. Please go ahead, sir.

Thank you all for joining us today. I am joined today by Charlie Liamos, our Chief Operating Officer and Chief Financial Officer, and Mark Tatro, our Vice President of Finance.

We are pleased to have the opportunity to review the events and results for the third quarter of 2002. Prior to discussing these results, I need to advise you that during the course of this call, we may make certain forward-looking statements regarding future events or future financial performance of TheraSense. We need to caution you not to place undue reliance on such forward-looking statements. They are not guarantees of future performance and involve known and unknown risks and uncertainties, which may cause actual results to – and performance to be materially different from that expressed or implied by those forward-looking statements.

A description of these risks can be found in our Form 10-Q for the quarter ended June 30, 2002 and additional reports we file with the SEC. Information in this presentation concerning TheraSense's forecasts for future periods represents this outlook only as of today's date, and we undertake no obligation to update or revise any forward-looking statements.

Charlie will be going into some detail on our financial results in a few minutes, but I wanted to review some of the key events of our third quarter.

Third quarter results were impacted by several factors that combined to produce a short-fall in revenue and larger-than-expected net loss. We are disappointed with the third quarter results but believe that we are taking appropriate steps to address the issues and implement corrective measures. Although our growth in the third quarter was not as large as we had anticipated, the foundation of our business remains healthy and our prospects are strong.

Because of our continued strong demand, there was a shortage of product at point of sale. We have confirmed this now through an audit. This caused excessive stock-outs on some retail shelves. We are taking immediate steps to remedy this situation. It is our responsibility to improve product availability for our FreeStyle users by working more effectively with our retail and wholesale customers. We will maintain our vigilance in this area.

Coupon redemption rates in Q3 were higher than anticipated. While coupon redemption rates clearly impacted third quarter results, they also increased our installed base, which positions us well for future test strip sales growth. We are also establishing improved communications to notify us of any future redemption rate changes should they occur.

In terms of market share, we have previously reported – provided data from the IMS Retail Provider Perspective Report, which is a measure of our sales into the wholesale and retail channels. The rolling 90-day period ended August 31, 2002 indicates an increase in our share of the test strip market up to 4.4 percent, up from 3.9 percent, for the 90 days ended May 31, 2002. The FreeStyle system market share for the rolling day period ended August 31 reached 9.2 percent, an increase from 6.1 percent, for the 90 days ended May 31. This system market share reflects our standing as the third most popular system on the market.

We will also begin providing the IMS National Prescription Audit Data with major purchases at the pharmacy counter. We think this outbound-to-customer data will give additional perspective to our share performance, along with the IMS inbound-to-channel data we have always reported. The National Prescription Audit Data becomes available earlier than the channel sales data, so there are data available for the 90-day period ended September 30, 2002. These prescription data indicated an increase in our share of the test strip market to 5.0 percent, up from 4.3 percent, for the 90 days ended June 30. The FreeStyle system market share for the rolling 90-day period ended September 30 was 7.1 percent, an increase from 5.8 percent, for the 90 days ended June 30.

To give you a further measure of our share based upon end-consumer dollars spent on the FreeStyle brand products, we have Nielsen data from four major drug chains. These data indicate that dollars spent on the FreeStyle System kits and test strips in these chains for the third quarter increased to 6.3 percent of total spending in the category, up from 5.2 percent in the second quarter.

Our System kit shipments, excluding samples, increased substantially during the quarter. The number of units was up by more than 30 percent over the prior quarter. We believe that much of this was driven by our television ad campaign that we began in July and are continuing in the fourth quarter. Our test market data shows that our television advertising helps us reach more people with diabetes in the U.S. market and increases the awareness of the FreeStyle system.

There were two key conferences which took place during the third quarter – the American Association of Diabetes Educators Conference, held in Philadelphia, and the European Association for the Study of Diabetes in Budapest. We are extremely pleased with the attendance at our booth at both conferences. Our recently launched FreeStyle Tracker System and FreeStyle CoPilot generated great interest. Both FreeStyle Tracker and FreeStyle CoPilot are technological tools designed to help patients manage their diabetes more closely and effectively. At both conferences, the volume of visitors to our booth to try a FreeStyle Blood Glucose System test or learn about our products indicated growing interest and awareness. To date, the FreeStyle Blood Glucose Monitoring System has now been launched in 28 countries outside the United States.

Turning to manufacturing issues, we successfully completed the transition of meter production to a Flextronics facility in the Peoples Republic of China in September. We expect this to favorably impact our gross margin on meters in the fourth quarter. We also continued to increase our test strip manufacturing throughput during the quarter.

On the subject of new product development, data from the early clinical trials of our Continuous Glucose Monitoring System will be presented to the scientific community later this month at the Diabetes Technology Meeting in Atlanta. We will present data from a study of 30 patients, comparing 12,155 venous [wyacide] data points to our continuous glucose sensor data. Results indicated that 97.6 percent of the readings were in the "A" and "B" regions of the Clark Error Grid. We are very pleased with the clinical accuracy of this data.

We are also pleased with the preliminary data we have from the ongoing pivotal clinical trial of our Continuous Glucose Monitoring System. This data continues to demonstrate good sensor performance. We are currently working on electrical connectivity issues between the transmitter and receiver that are temporarily delaying enrollment of patients in our clinical trials. We anticipate a speedy resolution to these issues, and at this time, we anticipate submitting our PMA application to the FDA in the second quarter 2003.

With that overview, I'd like to turn the call over to Charlie for a review of our financial performance during the quarter.

Thanks, Mark.

I'd like to start with our top-line performance. Our total revenues were 39 million for the quarter, compared to total revenues of 19.9 million for the same period of 2001. The 96-percent increase in total revenues over the comparable period of 2001 reflects the growing sales of FreeStyle test strips and FreeStyle System kits. International sales of $8.9 million represented approximately 22 percent of our overall revenues during the third quarter.

While revenues rose significantly year over year and while we see sales at the store level increasing – looking at the NPA of Nielsen data that Mark discussed, revenues were flat quarter to quarter due to a variety of factors. First, domestic wholesale retail revenues did not rise quarter over quarter due to a lack of product flow to the stores and a delay in expanding into several new outlets. As Mark has said, we are assigning the appropriate resources to help in this area.

International revenues were impacted by the delayed launches in the U.K. and Canada. In addition, European revenues have not grown at the rate that we had anticipated.

Cost of revenues for the quarter was 18.4 million, which represents a 43-percent increase over the third quarter of 2001. The increase was due to a greater cost associated with higher volumes. Cost on a per-unit basis declined.

TheraSense's gross profit for the quarter was 20.7 million, which represents 199-percent increase over the third quarter of 2001. The gross margin for the quarter was 53 percent, as compared to 35 percent for the gross margin in the same period a year ago. The improvement in gross margin and profit year over year resulted from higher-margin test strip revenues comprising a greater portion of our total revenue, lower manufacturing costs for System kits, and the spreading of fixed costs over larger sales volume.

Compared to the second quarter of 2002, without the contribution of the recognition of previously deferred revenue, the gross margin for the third quarter remained flat, primarily driven by our sales mix. We had a greater-than-30-percent increase in the number of System kits shipped in the third quarter. We are encouraged that we realized cost reductions of approximately 16 percent on both System kits and test strips in the third quarter versus the second quarter of this year. On strips, this takes our margin to exceeding 70 percent for the third quarter.

Our System kits, after reductions for rebates, coupons and other promotional costs, were sold at a negative gross margin. However, we expect further improvement of approximately 15 percent in System kit gross margin in the fourth quarter as we realize the full benefits of our transition of our meter manufacturing to China, which was successfully completed in September. System kit cost reductions will also result in lower operating costs in the product sampling line in SG&A.

Research and development expenses were 5.3 million versus 4.7 million for the third quarter of 2001. The increase was primarily due to the increase in spending on product development efforts, including our clinical trials.

Selling, general and administrative expenses during the quarter came in at 25 million versus 15.3 million for the third quarter of 2001. This year-over-year increase reflects higher personnel costs, additional costs associated with our contract sales force, and costs associated with international expansion. The increase in sales, general and administrative expenses in the third quarter versus the second quarter stem primarily from our television ad campaign and the costs related to our U.K. sales office. We expect that our sales, general and administrative expenses will continue to grow as we continue to increase product sampling and expand our sales force and increase our marketing and promotional efforts to expand our market share, but over time, we expect SG&A as a percent of sales to decline.

The result from operations for the quarter was a net loss of 9.3 million, or $0.23 per basic and diluted share, compared to a net loss of 12.9 million, or $0.41 per basic and diluted share on a pro forma basis assuming the conversion of the preferred stock for the third quarter of 2001. The primary contribution of our third quarter net loss was a shortfall in test strip revenues.

Looking at our balance sheet, we exited the quarter with cash, cash equivalents and investments of 85.4 million, compared to 103.5 million at the close of the second quarter. The cash expenditures went primarily to funding our net operating loss, increasing System kit inventories to ensure a smooth transition of our meter manufacturing to the Peoples Republic of China, and a planned increase in test strip inventories to bring them up to our planned service level. This level of cash expenditure is not indicative of our expected ongoing usage as the China transition inventories are temporary. We are confident about the adequacy of our cash, particularly with respect to our profitability plans.

Accounts receivable compared to the immediately preceding quarter remained flat at 36.7 million. Day sales outstanding on an unweighted basis was 85 days versus 84 days in the second quarter. Day sales on a weighted basis was less than 60 days at the end of the quarter. Since a substantial portion of our shipments during the quarter occur in the last month, there is a significant difference between our weighted and non-weighted day sales outstanding.

Inventories increased during the quarter due to an international shipment that we'd expected to recognize moving into the fourth quarter, higher quarter-end strip inventory to increase our service levels to plan, and higher System kit inventories to ensure that smooth transition to the China manufacturing. We anticipate our inventory levels in the fourth quarter will decrease.

Turning to our performance guidance, we expect total revenues for the fourth quarter to be in the range of 46 to $51 million. We expect to generate total revenues for 2003 in the range of 245 to $265 million, with the percent of contribution from international sales being in the 20- to 25-percent range. We expect to be profitable on a quarterly basis as our gross margin approaches 60 percent and our revenues exceed 51 million. Due to working capital needs, our cash flow breakeven on a quarterly basis will trail profitability on a quarterly basis.

This completes my financial review. I would now like to turn the call back over to Mark.

Thanks, Charlie.

As you can see, the prospects for this business continue to be quite exciting. We have a strong year-over-year growth and very strong gross margins for a company at our revenue run rate, and particularly one that has been shipping product fewer than 10 quarters.

This concludes our prepared remarks. We will be pleased to answer any questions you might have. Operator?

Thank you very much. Ladies and gentlemen, at this time, if you have a question, you will need to press the one on your touchtone phone, and you will hear a tone acknowledging your request. If your question has already been answered, you may remove yourself from the queue by pressing the pound key. Also, if you are using a speakerphone, please pick up your handset before pressing the buttons. One moment, please, for the first question.

Our first question comes from [Archie Smith] with U.S. Bancorp. Your mic is open.

Hey, guys.

Hey, Archie.

Hello.

I don't have a lot of questions, but I have two or three quick questions for you. Obviously, sequential momentum, at least on the top line in Q4, is very important at this point. Can we run through the issues that impacted Q3 and give us a sense of where you stand as you enter Q4, the first of which would be the Asian letter of credit? Has that cleared and that shipment gone out at this point?

At this point, it has not. Part of the learning experience, Arch, that we have is that these international letters of credit, where we depend upon the banks here as a guarantee of credit, in this case, that means they're doing the credit reviews, and the wheels of progress here sometimes take longer than we expect. Also, the issue may be due to the particular distributor in question maybe having less than the ideal financial situation; therefore, taking longer to eventually improve it. We do anticipate it coming in in the quarter, and if it does come in the quarter as expected, it is within our range that we have projected.

Okay, also on U.K. and Canada, can you give us an update on how you're faring in those markets?

The U.K. launch is going well. We had a little bit later start than we had anticipated, but the ramp is now picking up to more at the levels that we had expected.

In Canada, a similar situation, but the ramp there is not picking up quite at the level that we had wanted. We have to get into a little bit wider distribution in some of the major chains there in Canada in order to build that revenue up to the rate that we anticipated growing.

And then on couponing, I gather you guys have increased your accruals so that you don't have any couponing surprises in Q4? Or is there a risk of a residual couponing surprise in Q4, also?

Archie, the accrual is set up to cover – shouldn't be any surprises related to the sales coupons. Again, we're actively monitoring the redemption rates, and we think that couponing [and so] will be a part of promotional strategy in the fourth quarter, but from a standpoint of any large catch-up in the fourth quarter relative to things from the third quarter, we're confident that we've got the appropriate reserve level.

Okay. Two or three other quick things. Have there been any surprises of note on the transition over to Chinese manufacturing of your System kits A and B? How much inventory did you build there?

From surprises, no, it's gone as planned. It was very smooth. We took one line down mid-quarter and brought the other line up at the end of the quarter, so we have both manufactured – meter manufacturing lines now running in China. We had System kit inventories up by about 40,000 kits as we ran both lines in parallel.

And how much would that be in dollars?

About – about 2.2 million, Archie.

Got it. Then apparently the Becton – the long-rumored Becton product finally made at least a brief appearance in Canada. Obviously, it's targeted – or at least it's initially targeted – at a combination segment like InDuo, which doesn't – isn't particularly relevant to you guys. But it is a system that's advertised with a very small sample size. They wouldn't be the first people to advertise with a small sample size. Has anybody actually tried to use the device and determine if it works with .4 microliters?

Arch, we have seen the same information you have and the claims. They actually showed it at the Canadian Diabetes Association meeting. We have not yet had a chance to actually get our hands on the product and see how it performs in any number of ways, and we're anxious to do that as soon as they launch the product.

We have great respect for Becton-Dickinson and their brand name, but at this point, the product's performance is a bit yet unknown beyond their claims. I will tell you that our folks who reviewed the product there were, to your point, a bit concerned about the size of the product, as far as the overall bulk of the number of items they're trying to combine into a single product, and as we understand it, it is also at this point not approved for alternate-site usage despite their potentially small sample size.

So at this point, we are extremely vigilant in watching for the product to see it when it appears on the Canadian market first and get our hands on it and evaluate it, and at that point in time, we can have a better analysis of its potential. At this point, it's hard to comment without having actually been able to play with the product.

And then on Q4, just a couple of additional questions. You offered guidance consistent with your last call on the top line. Could you give us some sense of what you're looking for on the bottom line for Q4, A, and, B, what you expect your cash burn to be in Q4?

Okay, sure. On the top end of the range at 51 million, we feel that puts us in a position to be breakeven. If you look at operating expenses, Q4 versus Q3, we don't anticipate a large increase in those expenses, so you can see based on what we think we'll continue to improve on the gross margin that puts us in the range of breakeven. On the cash burn side, because of the fact there's a growth in revenues and the related growth in receivables, I mean we're estimating the cash burn to be probably in the 8 to $12 million range.

For Q4?

For Q4.

Okay. And then, lastly, on the Continuous Glucose Monitoring System, it sounds like the data's good but there's been an unexpected issue with the electronics? If you could just go through that in a little greater detail, I'd appreciate it.

Sure. The patient enrollment has proceeded extremely positively. The feedback has been excellent. The sense of performance has been excellent. The problem has been in the radio transmitter capability between the transmitter and the receiver. There are some electronics issues on the communication there that have been breaking down, not at all related to sensor performance, but what it's been doing is causing some alarms to the patient when the transmitter and the receiver do not communicate and we get what we call "drop-outs" in the communication between the two devices. Those excessive alarms are quite annoying to our customers, who are trying the product in the clinical trials, and we felt that to best proceed, we should repair those issues and make the appropriate modifications between the transmitter and receiver so that we can resume the trials effectively without, in the process, aggravating customers with a number of false alarms. So the good news is the sensor's working well. The bad news is that we have some transmitter electronics issues that we need to repair. It does not look like that it's a serious issue, and we expect to resume the trials in the next few days.

Okay, thank you very much. I'll get back in queue.

All right. We're going to move on and take the next question from [Chris Caster] with W.R. Hambrecht. Your mic is open.

Good afternoon.

Hi, Chris. How're you doing?

Hi, Chris.

Hi, guys. Question with you to kind of piggyback on Archie. With regards to your returns in the third quarter and what you accrued for, on a dollar basis, how much were you over? And are we looking at a higher return rate from the 1.5- to 2-percent level that we sort of look for?

No, Chris, we're not.

Okay. And how much you were over for the third quarter?

I'm sorry, on the sales returns?

Yeah.

The sales returns were – or the [plan issue] was the coupon redemption, Chris.

Right.

Okay. Gotcha. So the return –

Yeah, the returns – the returns were consistent with our previous accruals. The item that was higher than was higher than we had anticipated was the larger volume and redemption rate of the coupons that our sales reps, particularly, had been using earlier in the year in order to get new doctors, particularly, to try the product with their patients. That redemption level was higher than we had anticipated, and the volume of the coupons that we had kicked out in the earlier part of the year was higher, consistent with the expanded sales force. So the combination of a larger volume of coupons and the higher redemption rate than anticipated gave us the coupon reserve inadequacy that we had to adjust for in the Q3 results.

Okay. Thanks much.

Um-hmm.

Okay.

All right. We're going to go ahead and take the next question from [Scott Wilkin] with SG Cowen. Your mic is open.

Thank you. Just wanted to get a sense from you guys if you've learned anything more about what level of product inventory is currently at the wholesaler level, and what you would expect to be a normal sort of base-level of inventory for your product at the wholesale level?

Yes, Scott, this is Charlie. Based on our analysis, we think at wholesale currently is about 10 weeks' worth of inventory because there's a gap in what's at the store shelves. Our audit at the store shelves show that there – that there's a number of stores that have one piece where they should have four or no pieces, which we need – we have to work to get pushed out. We'd like to target that inventory; we'll level them at somewhere in the six- to eight-week range.

Okay. So currently it's at 10 weeks, and you believe that the right level is six to eight weeks, and so the effort is to get it out of the retailers --?

Get it out of the wholesaler to the –

Right, right, excuse me, right.

And, Scott, to try to make it as easy as we can to understand, there seems to be for the short term, you know, sufficient inventory in the channel. It's not in the right places. What we have found is that because of the accelerating sales of the freestyle products, we have not done an effective job in getting the replenishments at the store level, as they should be. Therefore, there's too much inventory sitting at the wholesale distribution centers that hasn't flowed out to the stores. We recently completed an audit with our sales force to look at that in addition to the third-party data that we've procured, which tells us very strongly that we're seeing a much higher-than-expected and much-higher-than-normal level of stock-outs of our products.

This can affect us in a couple of different ways. I mean, clearly, it affects the immediate procurement to backfill the product purchase that's coming into the channel from the retailers and wholesalers. The other thing that it can potentially do is cause the patients who go to the store to use our product to be switched at retail to a product that is available. So it is very much a high-priority item for us to fix. It is our responsibility to work with our partners in retail and wholesale to do this, and we've taken immediate steps to remedy this situation so that people who go to the stores to buy FreeStyle can find it and successfully complete that transaction.

So what percent in your study that you undertook did you get for stock-out? And how long do you expect this to take to rectify?

Well, the ranges were pretty dramatic. On a number of regions at the strip levels, I mean they were ranging anywhere from 15 percent stock-outs to up to 40 percent. So those are particularly concerning And, again, those are areas where we're concerned of – not only that people are inconvenienced but may potentially be switched. And so we are aggressively working, too, to get that push-out from the distribution centers to the stores to remedy that situation.

And you think this is a matter of a quarter fix? Or is it – could it take longer?

I think the immediate steps are already taking place now with the stores who have the most – fast response system capability. The others, I would expect, would take us in the next four to six weeks probably to see an effective change there.

Okay, that's great. And just on your SG&A spending, it was up three million from last quarter, if I’m counting right, and most of that you're saying is the TV ad campaign. So was it three million spent on the TV campaign, or was it less than that?

Less than that, Scott. It was TV and the U.K. sales office –

Okay.

But the lion's share of the – that increase is the TV advertising.

Yeah.

Okay, and so –

We did not spend [inaudible].

So Q4, you're still comfortable roughly in the 25 million range?

That's correct.

That's correct? Okay. And then, last question, just on the Nielsen data. You quoted September ending, and I thought that data wasn't going to come out yet till November. Just wondering if you could elaborate on the source of that data?

The Nielsen data for September we just received a couple of days ago.

Okay.

And, again, this is total dollars for the blood glucose monitoring category, and it showed that for the September-ending quarter we were at 7.1 percent, as opposed to Q2 at 5.8 percent.

Five point two, I thought, right?

No, no, seven one versus five eight.

Five eight, okay. And you said one other thing. Thirty percent – and I didn't quite catch it. You cut out right after that, something about an increase of 30 percent.

Oh, in my comments here were the – our System kit shipments, okay, exclusive of samples, increased by 30 percent Q3 over Q2.

Got it. Okay, thank you very much.

Um-hmm.

All right. We're going to take the next question from [Mark Italiente] with the Alliance Capital. Your mic is open.

Hi. What steps have been taken since you were clearly blind-sighted by this quarter at the company so we'd have more confidence in your future guidance?

Well, to your point, I mean we have taken immediate steps to improve our communication with our coupon redemption center so that any changes in rebate redemption levels, that we get immediate notification of.

Number two, we have taken immediate steps to begin to remedy the situation relative to the stock-outs that are apparent in our stores and have beefed up not only our level of surveillance and vigilance in this area but are continuing to increase our resources in that area, both from a contract basis, as well as a direct sales force basis.

The other part, frankly, Mark, was our own inabilities to adequately forecast some of the timelines that it takes to bring new international accounts on board. And in our new guidance, we have been more conservative in that regard, learning from the experience and predicting more conservatively the time it takes to get these new channels opened up.

And you think that'll be comprehensive enough to allow you to have better visibility going forward?

Yes, we do.

And some feedback I've gotten is it's kind of odd to run concurrently a television campaign along with a discounting or promotional couponing campaign concurrently. Is that an unusual strategy? Or what's the thought behind that?

I wouldn't say it's unusual. I mean we have been doing the professional sales coupons for well over a year. The volume increased only in proportion to the number of new salespeople we brought on board at the beginning of the year. That is still a very effective way for us to continue to do business relative to getting healthcare professionals to get new patients on the FreeStyle product. Where it helps, particularly, is for them to take their leading-edge patients, get them to try it at no expense, the product, and give them feedback, and we find that patients like the product, and doctors then are more free to recommend it when their new patients give them good feedback.

However, there are a large number of people that don't necessarily get exposure to FreeStyle through their healthcare professionals. We find that the television ads are also getting a lot of new people who haven't been exposed to the product previously to become aware of the product now and are going into retail. And so to run those two concurrently is not only seeming to give us the uplift and the increased volumes that we're looking for, but it's also consistent with what other competitors in this arena are doing. They're continuing to be aggressive with sales coupons and promotions, as well as concurrent TV advertising. So there's nothing particularly unusual about it from a competitive regard, as well.

And, lastly, management compensation – is that tied to operating metrics, performance? Or what are the levers that trigger bonuses and stock options at the company?

For the last several years, our company has had a bonus plan that is based upon the performance of the company. And if the company performs and hits its targets, then that sets a bonus pool for both cash and stock options that are available for us to distribute to the employees of the company. If we do not perform, there is no pool to allocate.

And is the – is the pool based on consensus earnings? Or what are the metrics there?

It is a multi-variable system. Included in that system are sales, earnings and another series of performance factors in the company, including quality measures and other items. But the – by far and away, the largest portion of that is our revenues, as well as the EPS.

Okay, thank you.

Once more, if you would like to register to ask a question, please press the one on your touchtone phone. We're going to take the next question from [Jeremy Fish] from [Eastborn Capital]. Your mic is open.

Hey, guys. I'm a little confused. The selling data that you gave us shows that you guys are getting share on the selling level, and yet you're also talking about stock-outs at retail. Can you just sort of reconcile the difference here?

Sure. The NPA and the Nielsen data represent what gets sold out from a prescription standpoint and what's over the counter. What we did is when we looked at our audit of – I think it was 1,400 stores over the last three days, and we saw our shelf conditions were greatly depleted. You know, our target is to have two to four System kits and four to six boxes of strips per retail outlet from a customer availability standpoint, and those were greatly reduced. And so that's why we're working to move it from the wholesale and retail distribution centers out to the retail outlets.

So that the selling data reflects what's piling up, presumably, in warehouses and not what is on the shelf?

What the RPP data shows us is shipments out of the warehouse into the retail outlets, those share numbers. And what the NPA and Nielsen data show is [indiscernible] purchases by consumer. And so our – what we confirmed in our audit was that the distribution centers aren't sending it out as fast as people are purchasing it, so we need to go work with the distribution centers to get it out.

Gotcha. Okay, so you guys are sort of gaining share at the distribution level but not at the retail shelf level?

No, the other way around. The issue is that people are consuming it off the shelves at increasing levels, but the reason that our share at the – into wholesale level is not increasing is those wholesale distribution centers are not getting the inventory replacements out to the store level, and, therefore, are under-ordering. So the issue is to do what's both a push and a pull from the retail distribution centers and wholesalers to the stores. And that is something that our team needs to more proactively manage in cooperation with our retail and wholesale partners to make sure that we have enough product at the store-level shelf for the consumers. So the issue is, the wholesale warehouses and distribution centers have the inventory but the stores do not. We need to get the movement going from those distribution centers to the stores.

Okay. And then you said that the Nielsen data that you had was for four –

It was comparing –

-- chains?

-- the quarter ending September Q3 as opposed to the quarter ending June.

Right. Which four stores? What was that from?

That was –

Rite Aid, Walgreens, CVS and Eckard, four major chains.

Okay.

Those are the chains that that particular Nielsen report samples to come up with that data.

Okay, good. Thanks.

We're going to take the next question from [Lynn Piper] with Thomas Weisel Partners. Your mic is open.

Hi, guys.

Hi, Linda.

Hello.

Couple of quick questions. How many meters were placed in the quarter not counting the samples?

Hang on just a second.

A little over 190,000.

Okay. And then what are you expecting to ship in the fourth quarter?

We expect to have something comparable to that.

Okay, great. And then, also, I guess I’m looking at your meter placements. What do you believe is the current cost of a new customer acquisition or meter shipped, taking into consideration the costs associated with the couponing and TV advertising?

Just a moment, Lynn, let's –

The coupon is a retail value of 74.99, so we think that's a little over $100, Lynn –

Um-hmm.

-- when you factor in the costs, the manufacturing costs of the kit.

That's not our average customer acquisition cost. That would be for a customer acquired through a coupon-based program.

Okay. Okay, and presumably, that would go then over time with less-aggressive promotions? I mean what's a long-term goal for a customer acquisition cost?

Well, certainly, our customer acquisition cost is going to come down as we continue to reduce the cost of the meters, both from a sample standpoint as well as the coupons that we'd run here, which are basically 100 strips procured to receive a free system. Our overall customer acquisition cost – hang on just a moment.

About $150.

Our overall average customer acquisition cost would be probably about a hundred and – approximately $150 per customer. And that will come down as we continue to reduce our cost of goods, as well as we continue to look at more cost-effective ways of promoting the product. And, clearly, in our recent estimation here, television advertising continues to be a great way to reach a lot of new customers in fairly short order.

Yup, okay. And then I guess I’m curious, in your assumptions for your guidance for next year, what are you assuming, given your pretty aggressive meter placements in the third and fourth quarter? You know, assumptions for the percent of meters placed in the back half of this year -- what percent of those people are you assuming will continue using the FreeStyle product? And then, secondly, what would – usage factor are you assuming and the timing to start to see this strip uptake or pull-through from these meter placements?

Let me see if I can get through all those questions, Lynn. I mean, number one, is I think from what we're seeing in the callback data we receive from – that we place to our customers, we're seeing a greater-than-80-percent retention level of the customers who procure our systems. We are expecting to substantially grow, virtually doubling our user base next year as part of our plan. That is consistent with a level of meter placement growth we have seen of recent, and we expect to be able to continue and expand with, of course, additional advertising and additional sales force adds for the coming year.

I'm sorry, I lost the third part of your question.

Well, and I guess usage factor. I'm assuming that you're moving more into the Type-2 market?

Yes, and as we've had in our models previously, and I think as well as you have, as we, particularly with television advertising, reach a wider audience, we would expect that our usage rate will continue to come down more towards the industry norm but certainly still stay above that due to the, again, the benefits of the less-painful testing. But our initial sales force thrust here has been to the high-prescribing doctors and educators who deal with the highest-frequency testing patients. As we go through mass media advertising to a broader audience of people, including a lot of Type-2s that would not be exposed to the product through our normal healthcare professional sales force, we expect that as they come into the market with a lower average test frequency that our average usage rate will continue to decline more towards the industry norm. But, again, we think we'll still reach a plateau above that.

Okay. And then I guess just one last one. Can you remind me how many sales people you have now and then as you look to divert resources to help, you know, on the pull-through from the distribution level, are you adding people? Or are you just diverting people? How's that going to work?

Well, right now, Lynn, we have 120 professional sales people that call on these high-prescribing doctors and educators and an additional 50 people that are contracted that call on the retail pharmacies. In the short term, they have all been helpful in determining the extent of the stock problems that we have talked about. We will continue to use them to take advantage of information-gathering along that line. But, clearly, we're also contracting additional information to be gathered by contract organizations to not only ascertain the stock levels, but also to do pharmacy detailing in order to do the pull-through, in a sense, to inform the pharmacists of the under-stock situations and have them reorder. And in our plans, we continue to plan to now have additional resources targeted at that area, as well as an expanded retail team going into next year that will significantly extend our resources in the retail area in order to stay on top of this issue and make sure that we continue to monitor and push product from the distribution centers to the stores at the levels that they need to be at. And that would bring us at that stage up to a more competitive level of staffing in the retail sales area compared to our larger competitors.

Okay, thank you.

You're welcome.

All right. We're going to go ahead and take the next question from [Vivian Wahl] from [Federated Kaufman Funds]. Your mic is open.

Hi, guys.

Hi.

If you can help us understand your international business a little better, it was a pretty healthy percentage of sales this quarter, and I’m wondering if you can put that number in perspective for us in comparison with Q1 and Q2, number one. And then, second, talk about what kind of reorder rates you're seeing from your major partners in [Diesotronics] and in Japan.

Okay.

And then going forward with the management change at the top at [Diesotronics], do you expect to see the same kind of commitment going forward that you expected originally? Thanks.

Okay, Mark will answer the first part of the question relative to the percentages in the earlier quarters.

Sure, the percentages have been running pretty consistently, slightly above the 20 percent for both the first quarter and second quarter.

Okay.

Third quarter was closer to 22 percent?

Third quarter was approximately 22 percent.

Relative to Japan, we're very pleased with the way the Japan launch is going at this point. Our feedback there has been very encouraging and very positive. Our partners there, [Nepro] and [Kesay], are doing an excellent job of moving the FreeStyle product forward and gaining share. And so we're continuing to be pleased with the way that launch is rolling out. I think we've all been a bit troubled with [Diesotronics]' own issues, and, you know, we are very pleased with them overall as a partner, but as we all know, they had some issues earlier in the year from a company perspective relative to the pump sales, particularly. I think as most companies would do when that happens, they put a lot of their focus on trying to revitalize their pump business and focus on that as a priority. While they're meeting their contractual minimums and more with us, we do believe that there's probably more that could be done, and with the change in management there, we have a meeting planned to come with them here in the quarter to go over a thorough business review with them as to what we can do together to continue to enhance the rapid growth of FreeStyle in the European market that they are working on. At this point, I can't give you the results of that meeting as it hasn't happened yet, obviously, but we believe that with their former chairman coming back and being involved in the business, that – and our abilities to work with them, we would like to believe that we can work cooperatively with them to do a more rapid expansion of the FreeStyle product growth in the countries that they represent.

So do you think going – looking into Q4 that you can hit at least the same, roughly, nine million that you hit in Q3 from overseas?

Yes.

Okay. Thank you.

This is all the time we'll allow for this question-and-answer session. At this time, I'd like to turn the call back over to Mr. Lortz for some closing comments.

We'd like to thank you all today for joining our call. As you can tell from today's discussion, we remain excited about the TheraSense future, and we look forward to speaking to you on our next quarterly call. Thank you all very much.