AngioDynamics Inc (ANGO) 2007 Q1 法說會逐字稿

... and ladies and gentlemen, and welcome to the fiscal 2007 first quarter financial results conference call.

[OPERATOR INSTRUCTIONS]

I would now like to turn the presentation over to your host for today's call, Miss Kim Golodetz. Please proceed, ma'am.

Thank you. This is Kim Golodetz with Lippert/Heilshorn & Associates. Thank you all for participating in today's call. Joining me this afternoon from AngioDynamics are Eamonn Hobbs, president and chief executive officer, and Joseph Gerardi, chief financial officer.

Earlier this afternoon AngioDynamics announced financial results for the first quarter of fiscal 2007, which ended on September 2, 2006. If you have not received this news release or if you would like to be added to the company's distribution list, please call Lippert/Heilshorn in New York at 212-838-3777 and speak with [Nidia Portilla]. This call is being broadcast over the internet and a recording of the call will be available for the next 12 months on the company's website at www.angiodynamics.com.

Before we begin, I would like to caution that comments made during this conference call by management will contain forward-looking statements that involve risks and uncertainties regarding the operations and future results of AngioDynamics. I encourage you to review the company's past and future filings with the Securities and Exchange Commission, including, without limitation, the company's Form 10-K and 10-Q, which identify specific factors that may cause actual results or events to differ materially from those subscribed in the forward-looking statements.

The content of this conference call contains time sensitive information that is accurate only as of the date of this broadcast, September 25, 2006. AngioDynamics undertakes no obligation to revise or update any statements to reflect events or circumstances after the date of this conference call. With that said, I would like to turn the call over to Eamonn Hobbs. Eamonn?

Thanks, Kim, and good afternoon everyone. Thank you for taking the time to participate in our quarterly conference call.

We are very, very pleased with the financial performance of the company during the quarter, as we are continuing to benefit from market share gains from our newer products while working to drive strong future growth from products we have under development.

This was a record first quarter for both revenues and earnings. At the same time, our gross margin, at 58.9%, is at an all-time high. You'll note that revenues were down from the fourth quarter of fiscal 2006, which is typical due to the seasonality of our business, and we will discuss this in greater detail later in the call with the goal of having you all understand how our sales typically play out and build through the year. We'll also discuss some of the products we have in our pipeline and give you some color on our latest initiatives.

First, though, I'd like to turn the call over to Joe Gerardi, who'll go into the quarter results in more detail. Joe?

Thanks, Eamonn. I would also like to thank everyone for participating in today's conference call. I'll present the highlights of the income statement and then discuss how some of our product lines performed. I'll go over some balance sheet items as well.

As you know, we had a very strong quarter with sales and earnings reaching a record for the first quarter. The summer months are typically our slowest sales period, so we're very pleased with this development. I'd note that August turned out to be a particularly strong month.

Our net sales for the fist quarter of fiscal 2007 increased 24% to $20.3 million, up from $16.4 million for the first quarter of fiscal 2006. This growth in net sales reflects double-digit growth in each of our company's product categories. Gross profit increased 25% to $11.9 million for the fiscal 2007 first quarter from $9.5 million for the prior year first quarter, and gross margin rose to an all-time record 58.9% from 58.2% last year, a 70 basis point improvement. The increases were primarily due to favorable product mix comprising our high margin products, especially the Total Abscession drainage catheter.

Operating profit for fiscal 2007 first quarter was $1.8 million, or 9% of net sales, which compares to $1.9 million, or 12% of net sales, for the prior year first quarter. Operating profit for the first quarter of 2007 includes additional stock-based compensation expense from the company's adoption of FAS123R of $488,000. This was not included in the prior year period. Additionally, the company recorded non-recurring legal and consulting charges of $200,000. Excluding the effect of FAS123R and one-time expenses, operating profits would be $2.5 million, or an increase of 31% over the 2006 first quarter.

Selling and administrative expenses were $8.5 million for the quarter, or 42% of net sales, up from $6.1 million, or 37% of net sales, for the prior year period. The increase in selling expenses was largely due to expenses associated with a larger sales force. We had 45 sales representatives at the end of the first quarter of fiscal 2006. Today we have 55.

Research and development expenses was $1.6 million in the quarter, or 8% of net sales, compared with $1.5 million, or 9% of net sales, recorded in the fiscal 2006 first quarter. Other income generated during fiscal 2007 first quarter was $1.2 million, which largely came from interest income on cash proceeds of approximately $62 million from a public stock offering completed during the last quarter of fiscal 2006.

The tax rate for fiscal 2007 first quarter was 37% compared with 38% for the first quarter of fiscal 2006. The decrease is attributed to taxes on interest income earned on municipal bonds. We expect the impact of graduated tax rates to offset the tax-exempt income in the future quarters, which should result in an effective tax rate of 38% for the full fiscal year.

Taking a look at the bottom line, net income for the first quarter of fiscal 2007 was $1.9 million, or $0.12 per diluted share. This compares to net income of $1.3 million, or $0.10 per diluted share, for fiscal 2006 first quarter. Without the impact of the adoption of FAS123R and the one-time expenses, net income would be $2.2 million, or $0.14 per diluted share, an increase of 72% from prior year.

Now I'd like to give you some insight into our exceptional performance of our product lines. Sales of angiographic products were $5.5 million in the quarter, up 20%, or $892,000, over the prior year period, with sizing catheters and the Mariner Hydrophilic catheter showing continued sales leadership in this group. Sales of dialysis products were $4.9 million, up 12%, or $512,000, led by strong sales of Dura-Flow catheters. Sales of vascular access products were $3.4 million, up 34%, or $860,000, reflecting particular strength in our sales of our Morpheus CT PICC.

Sales of venous products were $2.7 million in the quarter, up 27%, or $570,000, with VenaCure procedure kits growing 25% over the prior year quarter. Sales of thrombolytic products were $1.2 million, up 28%, or $260,000, with the sales of the Unifuse catheters growing at 34%. Sales of drainage products were $1.1 million, up 171%, or $690,000, with the Total Abscession catheter generating most of the growth. PTA products had sales of $1.1 million, an increase of 10%, or $100,000, over sales of the first quarter of fiscal 2006.

Moving on to balance sheet items, as of September 2, 2006, AngioDynamics had cash and investments of $89.2 million compared with $89.8 million on June 3, 2006. During the fiscal 2007 quarter, AngioDynamics made the second payment of $1.5 million in the acquisition of vascular access port technology from Medron, Inc. We anticipate commercialization of this product during fiscal 2008.

Our balance -- on our balance sheet you will see that we recorded a liability of $3.5 million during the quarter. Per our purchase agreement with Medron for the vascular access port technology, which we signed on May 1, 2006, we're obligated to pay $2.5 million on the second anniversary of the effective date of the agreement or at the time of the first commercial sale of the product by AngioDynamics, whichever earlier.

Our days sales outstanding were 53 days for the first quarter of fiscal 2007 compared with [inaudible - technical difficulty] days in the first quarter of fiscal 2006.

With that summary I'd like to turn it back to Eamonn.

Thanks, Joe.

I feel very comfortable in that we are continuing our rapid growth, even as our sales base gets bigger and we record exceptional sales from products on the market only a short time and continue our strong sales trajectory for our legacy products. Just about all our products are selling as well as or better than we expected.

We pride ourselves on our ability to understand the needs of our physician customers and the changes in the marketplace in order to bring forth highly competitive leading edge products. One of these products is our Total Abscession drainage catheter with technological features that are extremely competitive. We are getting an excellent reception to this product, which we launched in December of last year.

Total Abscession utilizes our proprietary tamper-resistant locking mechanism known as the Vault, which eliminates additional procedures that might otherwise be needed to replace drainage catheters when the locking pigtail shape becomes unlocked during routine catheter maintenance. Because it permits aspiration in either the locked or unlocked position, the physician can place the catheter more accurately. As a result, the Vault reduces physician time and increases patient comfort.

As evidence of our customer acceptance of this product, the total drainage product line posted sales of $1.1 million, which is up 171% over the prior year. In addition to Total Abscession being a technologically innovative product, it also has very high gross margins, above the 70% level.

Our angiographic catheters continue to represent a significant portion of our sales and accounted for almost 27% of first quarter net sales. Sales of these products were up 20% over the prior year. Once again, the Mariner Hydrophilic catheter, a relatively new product offering, was a standout in terms of growth, almost doubling to $335,000.

But our bread and butter catheter products such as the Accu-Vu sizing catheters performed very well, too, with sales up 29% in the quarter to $1.7 million. Sales of thrombolytic products were up 28% with our Unifuse catheter making the strongest contribution. As I have mentioned in the past, this catheter is being used to deliver a thrombolytic drug that is the subject of a Phase 3 clinical trial by a pharmaceutical company. We are pleased that the Unifuse was chosen, but not surprised given that our thrombolytic catheter delivery systems are the leader in this market. And we know the reason that they are leaders is because they exhibit superior quality and performance.

Our venous product lines for the treatment of varicose veins continue to be important contributors to our top and bottom lines, even considering the typically slower summer months. Year-over-year sales were up 27%. Procedure kit sales, which are higher margin recurring sources of revenue, were up 25%. Laser sales were consistent with the prior year's first quarter. We sold 23 lasers during the quarter, which puts our installed base at 434 lasers as of September 2nd. We anticipate that our laser sales will continue to generate significant high margin disposable kit revenue going forward.

I would like to say a few words on our ongoing patent litigation with Diomed. We are very confident that we do not infringe on any of the claims of the 777 patent. Now that we have finished the summary judgment phase, as expected, we anticipate going to trial in calendar 2007, probably in the earlier half of the year, although no trial date has been set. I want to remind you that under the terms of our supply agreement with Biolitec, we are indemnified. Biolitec has paid all legal costs related to this litigation to date and is expected to continue to do so. I would also add that in the unlikely event the court decides in favor of Diomed, we have provisions in place that will allow us to continue to sell our VenaCure products.

I also want to discuss the suit we initiated against Diomed that is completely unrelated to the 777 patent, whereby we claim that other of their patents were invalid owing to prior art. As you may know, the judge recently declined to issue a declaratory judgment to that effect. We filed this suit preemptively because we believe that Diomed would initiate its own suit and we wanted a determination of invalidity in order to avoid this. In this particular case, the judge ruled that there was insufficient evidence that Diomed was planning imminent litigation. We remain extremely confident in our belief of invalidity due to the existence of extensive prior art.

Let me now turn to a more positive subject, Sotradecol. This is the newest product offering in our venous treatment portfolio and we have very high expectations for its ultimate place as a solid sales contributor to AngioDynamics. During the quarter, as expected, our Sotradecol sales were modest. In order to eliminate all confusion in the marketplace, in Q1 we amended our agreement with Bioniche Pharma, thereby giving us sole distribution rights of Sotradecol to all customers in the United States. Because of the amendment, we are now clearly positioned to focus our efforts on converting the market from illegal importation and custom-compounding sources to our FDA approved Sotradecol.

We continue to educate physicians that Sotradecol is the only FDA approved sodium tetradecyl sulfate injection, that it's available solely from AngioDynamics and that purchasing compounded version of an FDA approved sodium tetradecyl sulfate injection is illegal and a high liability risk. As we have disclosed previously, we continue to expect that the new agreement will result in approximately $3 million of incremental Sotradecol sales in fiscal 2007. We are now starting to see very positive signs that our new agreement and marketing efforts are working and we look forward to sales ramping up during the rest of the fiscal year.

Looking ahead, we're working to optimize our catheter technology for delivery of Sotradecol for potential use in the ablation of larger veins, including the great saphenous vein, which could accelerate the growth of the vein treatment market.

Sales of the Morpheus CT PICC, which we introduced in the second half of fiscal 2004, were up 51% year-over-year to $2.4 million in the first quarter. This catheter allows both imaging agents and chemotherapy drugs to be delivered through the same catheter, avoiding the need to put a second line in the patient in order to perform a CT study. As you know, we launched a Morpheus CT PICC insertion kit nationwide during the fourth quarter of 2006. This allows nursing staff to insert the Morpheus CT PICC at the patient's bedside, if necessary. We have very high expectations for this product offering and judging from its rapid acceptance, physicians and nurses are very pleased with it as well.

These same customers for the Morpheus are also the customers for vascular access ports. We are looking forward to adding as port to leverage our Morpheus efforts and have acquired a very unique port technology from Medron. The technology is still under development and patents haven't issued yet, so I won't go into much detail about the technology today. In the meantime, I can tell you that we expect the port to be commercially available well within two years and this will address shortcomings in the currently available technology. Total consideration to Medron over three years is $8 million. We estimate the total market for vascular access ports to be over $200 million annually.

Also looking to new products, our Profiler PTA dilation balloon catheter is currently in the test market phase of launch and we expect to release this new product on a nationwide basis during our fiscal third quarter.

Turning now to progress in ramping up our sales force, we continue to add salespeople and are on track to have 70 field sales reps by the end of fiscal 2008. At the end of the first quarter of 2007, we have 55 representatives, up from 53 at June 3, 2006, the close of fiscal 2006.

As a final topic before taking your questions, I'd like to affirm our financial guidance for fiscal 2007. Given the strength of our first quarter results, we are very confident in achieving, if not bettering, our current guidance. For fiscal 2007, we expect net sales growth to exceed 28% compared to fiscal 2006 to approximately $101 million. Year-over-year net income growth, including the impact of FAS123R, is expected to exceed 42% to $9.8 million. R&D expenses are projected to be approximately 8.3% of net sales, while SG&A expenses are projected to be approximately 38.2% of net sales.

Without the effect of FAS123R, net income would be expected to reach $11.5 million, representing 68% growth from the fiscal 2006 and reducing R&D and SG&A to approximately 7.8% and 36.3% of net sales respectively. The total impact of FAS123R is expected to decrease net income by $0.11 per diluted share to $0.60 from $0.71.

Today, we are also introducing quarterly guidance to better characterize the seasonality in our business. We have seen a fairly reliable sales pattern over the past several years and expect that pattern to continue in fiscal 2007. More specifically, typical sales during the first quarter of the year will account for approximately 20% of the year's total, moving to approximately 24% in the second quarter, approximately 26% in the third quarter, and onto a high of approximately 30% in the seasonally strongest fourth quarter.

Now, looking more specifically at quarters two through four of this fiscal year, for the second quarter we anticipate net sales of approximately $24.1 million and diluted EPS of approximately $0.13. Without the impact of FAS123R, we would expect earnings of approximately $0.16 per diluted share. For the fiscal third quarter we forecast net sales of approximately $26.3 million, diluted EPS of approximately $0.15, and without FAS123R, earnings of approximately $0.18 per diluted share. For the fiscal fourth quarter we expect net sales of approximately $30.3 million, diluted EPS of approximately $0.20, and without FAS123R, earnings of approximately $0.22 per diluted share.

Gross margins have increased very nicely and are running far ahead of our plan and we see gross margins improving in fiscal 2007 approximately 40 basis points, continuing on our goal to achieve gross margins in the low to mid 60% range. Without the impact of FAS123R, our gross margins are expected to improve by 80 basis points this year.

That ends our formal remarks. Operator, we would now like to open up the call to questions.

Thank you, sir. [OPERATOR INSTRUCTIONS]

And our first question comes from the line of Phil Nalbone of RBC Capital. Please proceed.

Thank you. Good afternoon, Eamonn and Joe. I wanted to start with gross margins, which obviously were well ahead of our expectations in the quarter and I guess nicely ahead of your expectations. Can you talk about what went on there, why we saw such strength, and in the light of that why you're holding to the rather muted expectation for 80 basis points of improvement on a year-over-year basis?

Hi, Phil. The first quarter did come in a little better than we thought and that really was owing to the mix being more favorable towards the much higher margin products, especially Total Abscession, which is a very high margin product for us and tracked way ahead of plan. Other notables were increased mix of Morpheus and also the VenaCure kits. So the -- that answers why we did a little better than we thought in Q1.

Why we're looking to see the growth going forward being a little less than you'd think looking at as far as growth goes and growth over Q1, is because of the ramp-up of Sotradecol through the remainder of the year. And we're actually just now starting to see really positive signs on that ramp-up, so that at a 50% gross margin is going to slow our margin -- gross margin growth down to the levels that we've given in our guidance.

You've alluded to good things happening with Sotradecol. Can you be a little more specific?

Well, it's very early. We signed the agreement with Bioniche Pharma in late Q1 and really didn't see a whole lot of pick-up from that amended agreement. But as of late we're starting to see new accounts and the sales ramp-up that we've been waiting for. So although it's early, we're very excited about what we're seeing in Q2.

Okay, great. I wondered if you could talk a little bit more about the Medron arrangement, specifically what does this technology bring to the port access market, how does this differentiate Angio in the future, and what needs to happen from a clinical and regulatory standpoint for this product to reach the market?

Well, we're a bit limited in what we can discuss at this time about the port technology that we purchased from Medron. It is extremely exciting technology that's very unique. It is -- it does have patents pending and additional patents will be going in, which is why we're a bit limited right now. Our next conference call we should be a little better off, having everything, i's dotted and t's crossed, on the intellectual property side.

But what we can talk about is the port market is really a very attractive market from our perspective in that it leverages our success in the Morpheus CT PICC line marketplace and really goes hand in glove with that because if a patient doesn't get a PICC line, they'll get a port; if a patient doesn't get a port, they'll get a PICC line. So it's a marvelous addition to our image guided vascular access product group.

And our development plans are that we'll have that on the market in less than two years, possibly 18 months. It's a 510k pathway so they're very low regulatory thresholds. The market for CT PICCs last year was approximately $120 million in the U.S. We expect that to be over $200 million by the time we enter the market because of the advent of CT-capable PICCs, which will raise the average selling prices in that marketplace, like they have in the PICC line marketplace with the advent of CT-capable PICC lines.

So, a very attractive market for us. Port gross margins are extremely attractive, in what we would consider to be the very high margin area where gross margins are typically in the north of 75 to 80% and we -- it's a sweet spot for us and we're looking forward to getting in there.

Can you just be clear with us in terms of how a port is differentiated from a PICC? When do you use a PICC, when do you use a port? And are you thinking at any point you need to be in the central line market as well?

Well, when a decision is made to use a PICC versus a port, it has a lot to do with the length that the access is going to be required in the patient. So for instance, if a patient is only going to need vascular access for chemotherapy for two to three weeks, they typically would not even consider a port because it's buried subcutaneously. They would put a PICC line in, which has ready access to the vasculature but is not buried; it's not subcutaneously placed. The hookups for the catheter are sticking out of the patient's arm and they're covered over and the patient can live with that for a couple of weeks.

Typically, when they get past the threshold of, let's say, six weeks, the physicians are going to recommend a port to the patient because the patient would have an easier time bathing because the skin completely covers the access to the port. And a port is basically a PICC line connected to a subcutaneously implanted reservoir. So instead of having the hubs coming out, you have just flush skin with the port residing under it.

Now, there are a lot of patient preference issues here. Some patients don't want to have a catheter hub sticking out of their arm, even for a few weeks, so they'll demand a port. And then there are some patients who are really adverse to the needle that's required to puncture the skin to get into the port and would rather have a catheter connection where it's -- there's no needle involved. So even patients that have long-term access requirements may prefer a PICC line instead of a port.

But the rules of thumb are if six weeks or less for vascular access, then a PICC line will typically be used and if it's longer than six weeks, a port will be used.

Great. I will go back in the queue. Thank you, Eamonn.

Thank you, Phil.

And our next question comes from the line of Robert Goldman of KeyBanc. Please proceed.

Okay, good evening guys. A couple of questions.

Hi, Bob.

Hi, Eamonn. It was mentioned that the FASB impact was $488,000 in the quarter. Could you break that down between gross profit and SG&A?

That's in our press release in the bottom. Yes, sure, Bob.

Did I miss that on the release?

Yes, Bob. It's on the bottom of the press release on the financial page of the income. We actually put a table down there for you. It would be cost of goods, $89,000, sales and administrative, 430,000, research and development was 124,000, then you had the tax benefit with a net of 422.

Okay, thanks. And you also, Joe, mentioned, and I missed it, the Sarbanes-Oxley effect in the quarter. What was that again?

Well, between the legal and the SOX it was 200,000.

And legal is what, as differentiated from SOX?

That was the remainder of the confidential employee issue we had in Q4.

Okay.

A piece of it carried it over into Q1. We're all done with that.

And just the SOX portion of that was the lion's share of the 200, was it?

It was -- yes, it was about $1.25.

And the breakdown of that between cost of goods and SG&A?

It's all SG&A.

All SG&A, okay. And then on the product side, Eamonn, you mentioned that Profiler you think will be in national rollout in the third quarter of the fiscal year. Could you just remind us again what the regulatory pathway is on that and what gives you the sense of confidence, since at the end of the day this has dragged on a lot longer than at least I was initially looking for, that we should in fact now expect the third quarter for national rollout?

Yes, the history of the Profiler is we -- it was introduced into test market last fiscal year and during the test market we felt that we needed to tweak the product a little bit. And the number of tweaks that came out of the test market convinced us that it would be in our best interests to file a 510k amendment, which is a 30-day filing. So that slowed us down a little bit. We anticipate that we'll have the regulatory go-ahead to reintroduce the product to a very brief finish to the test market. So we're very confident we'll have this product on the market in early Q3 and maybe a bit earlier than that.

And this amendment to the 510k, it sounds like you've already submitted that to the FDA. Is that true?

That's true.

Okay, thank you.

You're welcome.

And our next question comes from the line of Jason Mills of First Albany Capital. Please proceed.

Hey, Eamonn, hey, Joe. Thanks for taking the call. Congratulations on the good quarter.

Thank you.

Wanted to -- wanted to explore Phil's line of thinking a bit more on the image guided side. Would like to take us up a little bit higher in the sky and talk about the U.S. IGVA market in total, Eamonn. I think you've done it a little bit in the past, maybe help crystallize for us, if we're thinking about 350, $400 million annual market, is that in the ballpark and if so, kind of review for us what percentage of that part you guys currently play in, excluding the ports, and how that breaks down?

And then you've mentioned what the port launch would give you access to, maybe it'd be helpful. And then obviously you don't participate in the central catheter line, but it seems to me like breaking that out and really giving us a sense for what you were competing in when you only had the CT PICC and then you launched the insertion kit, seemed to get you into another segment of that market, help us understand really how that's gone for you and what's ahead.

Well, the image guided vascular access marketplace is really divided up into thirds. The PICC line is approximately a $150 million market, the ports are currently about 120, on their way to well north of 200, and then central lines are the other third. And the trend is away from central lines and towards PICCs and ports. So the -- that's also fueling growth in the PICC and port marketplace. So if you add them all together, you're looking at least a $400 million market. And...

I'm sorry. Sorry to interrupt. So within PICC, you originally had the Morpheus, launched the Morpheus CT in '04, correct me on my timing if I'm wrong, and then just recently in May launched the insertion kit. So within that $150 million piece, how can we think about that?

The bedside insertion would represent at least half of the market and maybe as high as 60% of the $150 million market today.

Okay.

So the -- and then the standard Morpheus would be the other 40 to 50%.

Okay. So you're just -- you're getting into the bulk of the PICC line as of four or five months ago?

Yes, as of really the third week of May.

Okay. So with that being said, I'm wondering what impact did the Morpheus insertion kit launch have on your IGVA business in fiscal first quarter and can we expect sort of what -- I mean it looks like we're expecting that the guidance contemplates acceleration in growth in your business, which is a good thing to see, I'm guessing that the progression of growth in that line will be a contributing factor here.

Absolutely. We're looking for the Morpheus and the Morpheus insertion kit to continue to be a top performer as far as growth goes this year. And we really don't see any reason that that growth is going to slow down for at least this fiscal year and potentially for another fiscal year on top of that.

The product's doing extremely well, the customers like it. Prices in the marketplace are holding up very well. So, really, everything is firing on all cylinders there.

Great. And then back to gross margins for a second, if my math is right, if you exclude the stock-based compensation, your gross margins really, on a comparable basis to what you did last year of 58.2 were over 100 bps of improvement at 59.3. Joe, am I doing the math right and if so, to get it lends credence to what Phil was saying that it sounds like you're being a bit conservative, even in light of expected ramp in Sotradecol sales?

Your math is absolutely correct. We are looking towards Sotradecol being -- taking the numbers down. I think we're very bullish on our ability to meet or exceed our gross margin guidance. But it's totally driven by the mix and if the mix tends towards the higher gross margin products, as it did in Q1, there's definitely going to be a positive result from that. Upside of that --

Okay. Just one last follow-up and I'll get back in queue. So that would mean that if, in our model I think we're being a little bit conservative just to see it happen as opposed to modeling it on the Sotradecol side. If we're modeling total 3 million in sales, then you're talking about 3 million incremental, that would imply that our gross margin targets could possibly exist a little higher than where you're expecting, would be the first part of that questions.

Second part, if you're -- if you're estimating 3 million incremental, incremental to what, I'm wondering.

The Sotradecol business in this fiscal year is between 5 and 6 million, so the amendment to our contract really doubled our expectations for the year, or close to that.

That's helpful on that front. Thank you. And then on -- okay. So I guess that answers the question, I answered it myself. If we're modeling sort of more conservative just to be conservative, then we could probably think about gross margins higher than 80 basis points year-over-year.

Yes.

Okay, thank you. Makes sense. I'll get back in queue.

And our next question comes from the line of Matthew Scalo of Canaccord Adams. Please proceed.

Hi, guys. Very good --

Hey, Matt.

-- here.

Thanks.

Hey, I wanted to ask you, do you guys weight your sales rep's incentives more towards Sotradecol in order to incentivize these guys to do the heavy lifting to kind of convert this market and if so, can you kind of walk me through that justification because I figure if I'm a sales rep I'd rather sell the Morpheus and all these other faster growing products and kind of leave Sotradecol as a side, I guess.

Yes, we've been very successful in being able to steer the ship, if you will, with our sales force and get them to focus on products that were strategically important for us in one quarter to the next. And we've had examples of this in focusing on VenaCure in the past and in Q1 actually we focused our sales force on the Total Abscession, which although it was introduced in December, we really didn't have a quarter to spare to focus them on the drainage product. And the summer months were a perfect time for them to do that and we saw a tremendous traction with the product that we had been longing for, if you will.

So in Q2 we have focused the sales force on Sotradecol by using typical methods. They're all carrots. Virtually half of their bonus potential in Q2 is tied to Sotradecol goals, so they're definitely motivated to spend the time necessary to gain the traction with Sotradecol.

Okay, thank you, Eamonn. And on that same kind of note, are you still fighting the inventory buildup across the country here as far as Sotradecol is concerned?

Well, in certainly Q1 we saw that pipeline being a much bigger issue than we're seeing in Q2. We're starting to see the pipe open up as we expected because the customers that Bioniche had that were drug wholesalers and our information told us the drug wholesalers really did not keep more than 30 to 45 days of inventory in the pipeline. So that being said, they're all -- they've all run out or are in the last stages of running out as we speak. And we've seen that happen now; we're seeing the orders pick up nicely and we're feeling very relieved to see that business start to ramp up.

Okay. And can I assume since we haven't seen a press release in regards to any type of development on the lockup of both the Meyers family and the Stern family that either that's in the works or has any progress been made over the quarter here on that?

Well, what's happening November 1st is the lockup having to do with the tax-free status of the original spin-off from EZ-EM that locked up the two founding families of E Z-EM expires. And they'll be free to trade their stock under the restrictions of being insiders or -- and 144 filers. So they're pretty limited in their ability to move large quantities of stock.

They've also intimated that they're very pleased with the performance of the company and we don't get the feeling that they're interested in exiting in any way, shape or form at this time. We've certainly offered to assist when they -- if and when they do decide that they'd like to significantly reduce their positions and they've not exhibited any interest in doing that.

Okay, terrific, guys. Good quarter here.

Thank you.

And our next question comes from the line of Christopher Warren of Janney Montgomery Scott. Please proceed.

Thanks very much, guys. Can you hear me?

Sure can, Chris.

A couple of questions for you, first on the hemodialysis side of the business. Your growth, I believe, was 12% in the quarter, which was strong, but represents the slowest year-over-year growth since fiscal '05. Were there any factors contributing to that?

Yes, the - really, it had to do with sales force focus. We definitely took the sales force in Q1 and focused them on the drainage products and the -- also we had some product line rationalization in the dialysis catheter product lines in that we -- trimmed is probably not the best word, de-emphasized some of the lower margin business we had there, preferring that maybe our competitors would be better providers for that. So nothing there that alarmed us in any way.

We still see this as a segment of our business that should continue to grow north of 20% per year once we get through a little rationalization there on the gross margin side of it.

How many quarters would you expect that rationalization to impact?

I would expect to see it pick back up in Q2. It's really -- really it was just a few customers that we have de-emphasized.

Okay, thanks very much. Another question for you on the Sotradecol enforcement side. We've been hearing in the channel there are a couple of egregious offenders out there, one of them Hopewell Pharmacy in New Jersey. Any thoughts on you guys maybe looking for some legal enforcement?

Well, we're definitely interested in flexing our muscles on the enforcement side. We're working on a number of fronts. We're in close contact with FDA, who assures us that they're going to take a much more aggressive stance with the compounders in general and have -- actually, Hopewell has already received, I believe, its second Warning Letter; if I'm wrong, they've received one. But we think FDA's coming out of its -- or the priority of enforcement on the compounding side is reaching the level where it's going to start getting some traction at FDA.

On top of that, we've been working with legislators in Washington to educate them as to how big a problem this is, not just for our little corner of the pharmaceutical world, but in general where we believe that although compounders provide a very beneficial service in their ability to formulate drugs that are on a per prescription basis for patients that have allergies and such, when they get into manufacturing of drugs and competing with FDA inspected, FDA regulated pharmaceutical manufacturers, they're way over the line.

And the last avenue we've been pursuing is with the media and there've been numerous exposés by the mainstream press, including the Wall Street Journal, USA Today, Boston Globe on the issue and this is really exposing a tremendous amount of liability for physicians who -- and hospitals who use compounded drugs in that malpractice attorneys are salivating in that this is malpractice on a silver platter for them as to doctor, why did you use -- why didn't you use an FDA approved drug when you could have.

And too, it's also come up on the radar screens of the malpractice insurance carriers who are putting exclusions in their policies going forward, saying that if physicians or hospitals use non-FDA approved drugs, they're no longer covered. So that's clearly malpractice.

Got you. And just to extend that thought a bit, at what point would you consider adding incremental sort of revenue guidance into the model as a result of your efforts on enforcement?

Well, that's something we're looking forward to do, but it's very early. We're feeling -- we're just now starting to feel really comfortable that we're getting the traction we've been looking for and we're seeing new customers coming onboard and seeing the sales ramp /up. So give us a quarter or two. We'll see what we can do.

And one last one for you, I apologize. On the VenaCure side, the kit sales are about mid 20s and obviously that's very strong. It also represents a bit of a deceleration, I believe, from previous quarters. Anything there in pricing dynamics or market fundamentals that have changed?

No, nothing's changed. We noticed that, too, and did a lot of investigation on the VenaCure side to see what was going on. Two factors. One, we really had a blowout Q4, so we had a little bit of overhang from that into Q1. And two, procedures really dropped off the map in Q1 because it's the summer months and no one wants to be having their legs done in the summer months; they want them done in the spring or in the fall for the next summer. So it's kind of a seasonality issue. We're expecting the growth to pick up significantly for the rest of the year and we're very happy with that business segment.

Okay, thank you very much. Well done.

Thank you.

And our next question comes from the line of Jayson Bedford of Raymond James. Please proceed.

Good afternoon, guys. I apologize in advance for the background noise. I just have a couple of quick questions for you. Just on your Sotradecol efforts, it's our understanding that half of that market really stems from the derm channel. Just wondering how you guys are addressing that market and kind of what you're seeing out there initially.

Hey, welcome back, Jason. It's good to have you back following us.

Thank you, it's good to be back.

On Sotradecol, you're absolutely right. At least half of the market, maybe as much as 55 to 60% of the market is based in aesthetic dermatology and we're tackling that market in two ways. One, we go to the meetings that aesthetic dermatologists go to in our normal sales pattern for VenaCure. They're called the phlebology meetings. So the phlebology meetings are attended -- 30 to 40% of the attendees are aesthetic dermatologists, so we're seeing those physicians on a routine basis. In addition, we're doing extensive mailings and initiating telemarketing to make sure we cover all the derm marketplace to make sure they're sensitive to how they can get Sotradecol and it's as easy as calling an 800 number and they can have the drug the next day.

Okay, great. Thank you. And then, Joe, quick question, second quarter EPS guidance, $0.13 on a GAAP basis, does that include any type of kind of non-recurring costs?

No, we're back -- we're back on square, we're firing on all these cylinders again.

Sounds good. Thanks.

And our next question comes from the line of Kevin Baker of Chartwell Investments. Please proceed.

Hi, gentlemen. How are you?

Great, Kevin. How are you?

I want to flesh out, please -- I'm doing great. I want to flesh out your -- the verb "assist" caught my attention when talking about the Meyers and the Sterns. Could you flesh that out for me, please?

Well, it's a delicate situation in that it's not up to us to decide what they're going to do with their shares. I mean they have to abide by all the rules everybody else does as shareholders. So we approached them and said, look, investors are concerned about the November 1st date. We're not particularly because they've been long and ardent supporters of the company for a very long time and the Meyers are -- David Meyers has been a long term board member, so he's an insider, so he's not going anywhere with his shares.

Right.

And the Stern', well, Howard passed away last year just before New Year's and they're -- it's been a traumatic time for the family, as you would expect, and they're trying to work their way through both their extensive holdings in EZ-EM and their holdings in Angio. And they -- we said, look, if you -- if you are at all interested in reducing your position significantly, we would be happy to help you do that in a way that makes all the shareholders happy, including themselves. And that's what we mean by assist. They're...

Does that go up to and including buying their stock and retiring to treasury?

That is not something we've given a lot of consideration to.

Okay, that's what I first heard when I heard...

No, no.

Okay.

No. I don't think that that would be the best way to handle it, if it ever came up, and --

Okay.

-- right now it doesn't look like it's going to come up.

Okay, all right. I appreciate your help. Thanks so much.

Thank you.

Take care.

And our last question is a follow-up question from the line of Robert Goldman of KeyBanc. Please proceed.

Okay, thanks for letting me back on. Just a follow-up question, Joe, on the SG&A and I know it can bounce around a bit by quarter, but adjusting the SG&A for the FASB, the SOX, this extraneous legal expense, still the SG&A to sales is up about 150 basis points year-on-year. I know the sales force increased, but it looks like an increase in line with the sales growth. So if you can just help me through why SG&A to sales went up year-over-year?

Maybe I can take a stab at that, too, because I think you put your finger right on it, Bob, in that our sales force numbers that we quote don't include the management level that increased pretty significantly year-over-year. We not only increased our regional management level with the number of territories, but we also increased by adding another layer because we'd reached critical mass. So we have two zone managers now that divide the country up in half, which is a new level of management we didn't have the year before. So that's pretty significant expense. And then the addition of one regional manager.

Okay. That gets me there. Thanks.

And we do have one last question, sir, from the line of Arnie Kaufman of Brean Murray Carret. Please proceed.

Good quarter, guys. One I did have, Eamonn. My understanding is the gross margin on your Sotradecol is obviously lower than your other products, a number of other products. However, my understanding is also that the effect on the bottom line is almost equal to some of your higher margin product. Could you just elaborate so I can get an understanding of why -- how that works out?

Yes, the gross margin on Sotradecol is 50% and ultimately the contribution margin from Sotradecol will be competitive with other higher margin products. But this fiscal year, with startup costs and the like, we're not going to be getting that leverage. That'll come next fiscal year. And it really has to do and when we get past a running rate of $6 million, we can start to look for that leverage to appear.

And that's -- is there less commissions or what is it that drives that?

Well, it's the new product startup costs of the advertising blitz, the normal expenses that are associated with increased sampling. Also, I'd like to add that our ultimate plans for Sotradecol are to increase the gross margins significantly and that will be something we'll be looking to do once we've achieved -- basically once we get past this fiscal year. I think we'll be looking to going back to our partner, Bioniche, and looking to either buy the product outright or partner with them in a way where we can enjoy higher margins.

Okay. One other question, I guess I have to ask, regarding acquisitions. Are you going to give us sort of an update on that front?

Well, we've been very active in that area. We've got nothing to announce today, but we are active. We have -- we are sticking to our guns. We're looking for acquisitions that are accretive. We're -- if they're a platform technology, we're looking for them to be neutral until they become accretive, being handled through our 8% investment in R&D, 8% of revenues going into R&D every year. If they're an operational company, it needs to be accretive fast, very fast, and accretive in a way that is pretty conservative. So we're very interested in strategic acquisitions that will be accretive. There are a number out there that are very exciting and we're working on them, but got nothing to report today.

You don't want to tip your hat at all? Okay, thanks a lot, guys.

Thank you.

Thank you.

Ladies and gentlemen, this does conclude the question and answer portion of today's conference call. I'd like to turn the presentation back over to Mr. Hobbs for any closing remarks.

Okay, so in closing we believe fiscal 2007 is off to a very strong start. This has been an excellent quarter whereby we demonstrated our ability to grow all core products at a double-digit rate and drive earnings growth through gross margin expansion.

I thank you for your attention this afternoon and look forward to speaking with you again when we report fiscal second quarter results in about three months. Good day.

Ladies and gentlemen, thank you for your participation in today's conference call. This does conclude the presentation and you may now disconnect. Have a great day.