Artivion Inc (AORT) 2006 Q3 法說會逐字稿

Greetings, ladies and gentlemen and welcome to the CryoLife Corporation third quarter 2006 financial results conference call.

[OPERATOR INSTRUCTIONS].

It is now my pleasure to introduce your host, Mr. Steve Anderson, President and CEO of CryoLife corporation.

Thank, you, Mr. Anderson, you may begin.

Thank you very much and good morning everyone and welcome to the CryoLife's third quarter '06 conference call.

This is Steve Anderson, the company's President and CEO and with me today is Ashley Lee, the company's Chief Operating Officer, Chief Financial Officer and Executive Vice President.

This morning the company announced its operating results for the third quarter of '06. Revenues were up 22% over revenues for the same period last year. More importantly, the third quarter showed an operating profit for the second consecutive quarter. Margins have continued to increase across the board in the third quarter. Ashley will get into more details about the company's third quarter financial performance in a few moments.

The agenda for this morning's call is as follows: Ashley will discuss in detail the company's financial performance for the third quarter. He will discuss our recent announcement of a BioGlue license agreement with BioForm, Inc., a company focussed on the cosmetic and plastic surgery market. He will discuss the completion of the company's strategic review and will get into details of what you should expect from this review in the future.

I'll discuss the status of the BioDisc clinical study that is ongoing in Scotland and its CE Mark submission time frame, as well as our plans for a post-marketing clinical study and the discussions we have had with a number of companies in the spine repair market. I will also discuss the timetable for the submission of additional patient data to the FDA regarding our SynerGraft processed human pulmonary heart valves. I will discuss the timetable for the anticipated approval of the 510K for our surgical patch that we call ProPatch.

The company hosted its annual cardiac reconstruction training symposium at our training pavilion at corporate headquarters on October 19th through the 21st. Dr. John Brown, the chairman of the department of cardiovascular surgery at the University of Indiana was the course director. Thirty-three board certified cardiovascular surgeons from across the United States attended this symposium.

After my comments, Ashley will return and he will give financial guidance for the rest of the calendar year and fiscal year 2006 and will give the company's revenue forecast for fiscal and calendar year, '07.

At this time Ashley will comment on this morning's press releases.

Thank you, Steve.

To comply with the Safe Harbor requirements of the Private Securities Litigation Reform Act of 1995, I would like to make the following statement: Comments made in this call which look forward in time involve risk and uncertainties and are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. The forward-looking statements include statements made as to the company's or management's intentions, hopes, beliefs, expectations or predictions of the future. All statements made during this conference call that do not reflect historical results or information should be deemed to be forward-looking statements. It is important to note that the company's actual results could differ your materially from those projected in such forward-looking statements. Additional information concerning risk and uncertainties is contained from time to time in the company's SEC filings including the Risk Factors section of our Form 10-K for the year-ended December 31, 2005 and subsequent SEC filings and in the press release that we released this morning.

This morning we reported our results for the third quarter of 2006.

Revenues for the third quarter of 2006 increased 22% to $20 million, compared to $16.5 million in the third quarter of 2005. Net income in the third quarter of 2006 was $2 million, and $0.07 per basic and fully diluted common share, compared to a net loss of $3.1 million, and $0.14, per basic and fully city diluted common share in the third quarter of 2005.

Please refer to the Investor Relations section of our website at www.cryoLife.com and select the heading "Webcast and Presentations for Reconciliation of Non-GAAP Adjusted Earnings" contained in the following discussion to the comparable GAAP earnings numbers. In the third quarter of 2006, non-GAAP adjust adjusted income before a net gain of $2 million related to the settlement of an insurance dispute and $185,000 charge related to stock based compensation was $170,000 and a non-GAAP adjusted loss of $0.0 per basic and fully diluted common share. In the third quarter of 2005, non-GAAP adjusted loss before a $741,000 charge related to the adjustments of reverse for product liability losses, a $701,000 charge related to post employment benefits and $412,000 gain for the change in the value of the derivative related to the preferred stock was $2.1 million and $0.10 per basic and fully diluted common share.

Revenues for the first nine months of 2006 increased 17% to $60.2 million compared to $51.3 million in the first nine months of 2005. Net income in the first nine months of 2006 was $415,000 with a net loss of $0.01 per basic and fully diluted common share, compared to a net loss of $18.9 million and $0.81 per basic and fully diluted common share in the first nine months of 2005. In the first nine months of 2006, non-GAAP adjusted loss before a net $2 million gain related to the settlement of an insurance dispute and $832,000 charge related to stock based compensation, a $451,000 gain related to an adjustment of reserves for product liability losses and a $448,000 charge for product liability losses and a $448,000 charge related to post employment benefits was $749,000 and $0.06 per basic and fully diluted common share. In the first nine months of 2005, non-GAAP adjusted loss before an $11.8 million charge, associated with the settlement of a shareholder class action suit, a $701,000 charge related to post employment benefits, a $403,000 benefit related to the adjustment of the reserves for product liability and other legal losses and a $372,000 charge for the change in the value of the derivative was $6.9 million and $0.29 per basic and fully diluted common share.

BioGlue sales in the third quarter of 2006 increased 6% to $9.4 million compared to $8.9 million in the same period in 2005. The increase was primarily attributable to an increase in BioGlue average selling prices which increased derivatives by 5% and the effect of foreign currency exchange which increased revenues by less than 1%. U.S. BioGlue sales were $7.1 million and $6.7 million in the third quarter of 2006 and 2005 respectively. International bioglue sales were $2.3 million and $2.2 million in the third quarter of 2006 and 2005 respectively. BioGlue sales increased 4% to $29.5 million compared to $28.3 million in the same period in 2005. The increase was primarily attributable to an increase in average selling prices which increased revenues by 4%. U.S. BioGlue sales were $22 million and $21.5 million in the first nine months of 2006 and 2005 respectively. International BioGlue sales were $7.5 million, and $6.8 million in the first nine months of 2006 and 2005 respectively.

We indicated in our previous conference call that procurement trends were favorable and that we expected that to be reflected in our top line. We are continuing to see the results of favorable procurement in the third quarter of 2006. Tissue processing revenues in the third quarter of 2006 increased 41% to $10.3 million, compared to $7.3 million in the third quarter of 2005. Tissue processing revenues for the first nine months of 2006 increased 34% to $29.8 million, compared to $22.2 million in the first half of 2005. Tissue processing revenues increased primarily due to an increase in tissue procurement, and an improvement in processing yields which resulted in an increase number allografts available for distribution and price increases. You may refer to our 10-Q which we plan to file by the end of the week for more information about procurement trends.

Now I'd like to talk about specific lines. Cardiac revenues were $4.2 million for the third quarter of 2006, compared to $3.1 million in the third quarter of 2005, an increase of 33%. The increase in cardiac revenues was driven equally by fee and volume increases, which each increased revenues by approximately 17%. Although we saw an increase of 36% in cardiac units shipped in 2006, we experienced a product mix shift which resulted in more lower priced cardiac patches being shipped as a percentage of total cardiac units shipped.

Cardiac revenues were $11.6 million for the first nine months of 2006, compared to $10.4 million in the first nine months of 2005, an increase of 11%. The 11% increase in revenues was due to an increase in service fees, which increased revenues by 8%, and an increase in volume which increased revenues by 3%. Although we saw an increase of 14% in cardiac units shipped in the first nine months of 2006, we experienced a product mix shift which resulted in more lower priced cardiac patches being shipped as a percent of total cardiac units shipped.

Vascular revenues were $4.5 million for the third quarter of 2006, compared to $2.8 million in the third quarter of 2005, an increase of 58%. The increase in vascular revenues was driven by a 37% increase in vascular unit shipments which increased vascular revenues by 43%, and fee increases, increased vascular revenues by 43%, and fee increases, which increased revenues by 15% in the third quarter of 2006 as compared to the same period in 2005.

Vascular revenues were $13.1 million for the first nine months of 2006, compared to $8.3 million in the first nine months of 2005, an increase of 58%. The increase in vascular revenues was driven by a 38% increase in vascular unit shipments, which increased vascular revenues by 47% and by fee increases, which increased revenues by 11% in the first nine months of 2006 as compared to the same period in 2005. The increase in third quarter and year-to-date unit shipments is a result of the strengthening procurement trends and an increase in tissue yields.

Orthopedic revenues were $1.7 million for the third quarter of 2006, compared to $1.4 million in the third quarter of 2005, an increase of 22%. The increase in orthopedic revenues was driven by fee increases, which increased revenues by 18%, and an 11% increase in orthopedic unit shipments, which increased revenues by 4% in the third quarter of 2006, compared to the third quarter of 2005. Orthopedic revenues were $5.2 million for the first nine months of 2006, compared to $3.5 million in the first nine months of 2005, an increase of 48%. Unit shipments of orthopedic tissue increased 27%, which increased revenues by 35% in the first nine months of 2006, compared to the first nine months of 2005. Additionally, increases in average service fees increased revenues by 13% in the first nine months of 2006, compared to the first nine months of 2005. Again, the increase in third quarter and year-to-date unit shipments reflects improvement procurement trends an improvement tissue yields.

For more detailed discussion of the factors driving revenues, please refer to our Form 10 Q for the quarter ended September 30th, 2006, which we expect to file by the end of the week.

Total product and tissue processing gross margins in the third quarter of 2006 were 57%, compared to 52% in the third quarter of 2005. Tissue processing gross margins in the third quarter of 2006 were 33%, compared to 18% in the third quarter of 2005. Tissue processing gross margins improved in 2006 compared to 2005 primarily as a result of price increases and improvements in the company's tissue processing yields.

Total product in tissue processing gross margins in the first nine months of 2006 were 56%, compared to 53% in the first nine months of 2005. Tissue processing gross margins in the first nine months of 2006 were 30%, compared to 19% in the first nine months of 2005. Tissue processing gross margins improved in 2006 compared to 2005 primarily as a result of price increases and improvement's in the company's tissue processing yields.

General administrative and marketing expenses in the third quarter of 2006 were $8.5 million, compared to $11.1 million in the third quarter of 2005. Excluding a net $2 million gain related to the settlement of an insurance dispute, non-GAAP third quarter 2006 G&A expense was $10.5 million. Excluding a $741,000 charge related to an adjustment of reserves for product liability losses and a $701,000 charge related to post employment benefits, non-GAAP third quarter of 2005 G&A expenses were $9.6 million.

General administrative and marketing expenses in the first nine months of 2006 were $30.1 million, compared to $42.7 million in the first nine months of 2005. Excluding a $2 million -- a net $2 million gain related to the settlement of an insurance dispute, an $832,000 charge related to stock based compensation expense, a $451,000 gain related to an adjustment for of of reserves for product liability losses and a $448,000 charge related to post employment benefits, non-GAAP G&A expenses for the first nine months of 2006 were $31.3 million. Excluding an $11.8 million charge associated with the settlement of a shareholder class action suit, a $701,000 charge related to post employment benefit, and a $403,000 benefit related to an adjustment of reserves for product liability and other legal losses, non-GAAP G&A expenses for the first nine months of 2005 were $30.7 million. You should refer to our SEC filings for detailed discussions of factors affecting our results of operations.

During the third quarter or cash and securities balance decreased from $8.3 million at June 30, 2006, to $8.2 million at September 30, 2006. This does not include the $2 million in net proceeds received in October from the settlement of the insurance dispute that we have previously mentioned.

In early January, we announced that we had engaged Piper Jaffray to assist the board and management in identifying and evaluating potential strategies available to the company. Over the past several months the board and management have met on several occasions to discuss value enhancing strategies. We considered the recent improvement in the company's operations in our analysis. Earlier today we announced that in addition to focusing on growing our business and leveraging our expertise in our core marketplaces the board has authorized management to pursue three key strategies designed to generate revenue and earnings growth. Those opportunities include identifying and evaluates automatic which significance opportunities of complimentary product lines and companies, licensing company technology to third parties for noncompeting uses, and analyzing and identifying underperforming assets for potential sale or disposition. Additionally, the board determined that shareholder value is not likely to be maximized through a sale of the company or of a major product line at this time. Further, the board has concluded that the significant improvements in the company's operating results in the second and third quarters, coupled with recent improvements in the company's liquidity, make it you unnecessary to pursue a capital raising transaction at this time.

All of this is designed to accelerate revenue and earnings growth for the foreseeable future and to make the company more focused on its core customer base.

I would like to spend a little time talking about each of the three key strategies.

First, our licensing opportunities. We announced earlier this week that we had completed a licensing agreement with bioform medical under which bioform will assume responsibility for regulatory approval and marketing and distribution in the United States and certain other territories for BioGlue's use in cosmetic and plastic surgery. Bioform is a privately held medical device company developing and commercializing injectable products for soft tissue August mentation. We will serve as the exclusive manufacturer and supplier of BioGlue to bioform. We believe that the funding of the development and subsequent marketing and selling of BioGlue by an emerging leader in cosmetic and plastic surgeries will create both near term and long-term value for our shareholders.

We will also continue to -- we also continue to interview and evaluate potential partners to assist in the commercialization of our proprietary protein hydrogel technology for use as a spinal disc nucleus replacement device. We have previously indicated that we would like to have a partner in place around the time that we seek and receive CE Mark approval to commercialize this product in the EC. These talks continue to progress and we will complete a transaction for this technology if we believe doing so is in the best interest of our shareholders.

Finally, we believe that we have other opportunities available to us to outlicense non core uses of our technology platforms which include our SynerGraft technology and our protein hydrogel technology. We will continue to pursue these opportunities.

We also stated we would analyze an identify underperforming assets for potential sale or disposition. If and when we complete a transaction or take any other significant steps we will inform you.

Finally, we stated that we would evaluate product line or company acquisitions as a means to supplement both our near term and long-term growth. Any acquisitions will be very strategic in nature and we will strive to leverage our current assets which include both personnel and technology. We will let you know when any decisions have been made in this area. We recently made a statement that we believe bears repeating and that is we believe we will not need to finance in order to fund the day-to-day operations of the company. This does not rule out some type of financing in connection with the potential transaction, especially if we believe that such a financing will create value and be in the best interest of our shareholders.

That concludes my comments and now I'll turn it back over to Steve.

Thanks, Ashley.

Our initial BioDisc clinical study that includes 11 patients is on course and on time. As you'll recollect from previous conference calls, the study was to include 10 patients. However, the first patient has been lost to follow-up and therefore we added another patient to the study. You'll recollect from previous calls that patient number one missed his first post-op exam by a couple of weeks and was examined -- was subsequently examined and found to be fine. However, he refused to return to the doctor for additional exams and we felt it best to do an 11th patient.

The outcome data from these patients which will range from almost six months to over 16 months of follow-up at the end of this year will be collated and submitted to our notified body that will evaluate the data and make a determination if it is adequate to support a CE Mark. We are hopeful that we will be granted a CE Mark for BioDisc during the first quarter of next year. If we receive the CE Mark, we plan to conduct a post market multi-center study with five to seven other European clinics that will include up to another 150 patients. 100 of the post-market study patients will receive the BioDisc implant after a routine discectomy. 50 patients will comprise the control group and will have a discectomy only without the BioDisc implant. Follow-up time points are six weeks, six months, one year, and two years, with an MRI assessment at the one and two-year visits.

We have begun the process of selecting these other clinical sites. Management attended the Eurospine meeting on October 25th through the 28th in Istanbul, Turkey and held meetings with leading clinicians who are interested in participating in the post market multi center BioDisc study. Interim results of our initial pilot study were discussed during these meetings and also discussed in the company's booth at the convention.

Management has continued its meetings with five spine implant companies for the purpose of identifying a partner for the European commercial launch of BioDisc if we are granted a CE Mark. We have had multiple meetings with three of the five companies over the past two to three months. Management believes that the potential worldwide market opportunity for a nucleus pulpous replacement is about $800 million.

The company continues to collect implant data relating to the SynerGraft process pulmonary allograft heart valves that are used to support our 510-K submission. As you'll recollect from previous discussions of this matter, the FDA requested that we follow-up with about 300 patients who have had these SynerGraft process pulmonary valves implanted. The data will include a minimum of 150 valves from patients with right ventricular outflow tract reconstruction and 150 patients that had Ross procedures. We are continuing to collect this implant data from seven clinics in the U.S. and expect to complete this project and submit the implant data to the FDA during the first quarter of 2007. We expect to hear back from the FDA sometime in the second quarter regarding our 5 10-K submission for the SynerGraft process human pulmonary valves.

Management has evaluated other strategic options for our other SynerGraft process human tissues and of particular interest is the possibility of gaining market approval for them as humanitarian product. The regulatory pathway for humanitarian products is specifically aimed for products that are used to treat fewer than 4,000 patients per year.

This regulatory strategy is a two-step process. First, the product must be designated by the FDA's Orphan Products Group as a humanitarian use device and then after this designation, a formal humanitarian device exemption application is required. Should the designations be given, we are targeting these HDE submissions for the first quarter of 2007 and would anticipate hearing back from the FDA sometime in the second quarter of next year.

In October, the company provided additional information to the FDA regarding our 510-K notification for the bovine pericardium surgical patch that we have developed. We call this surgical patch ProPatch and we intend to focus the marketing of this surgical patch on the hernia repair market. We estimate that over 600,000 hernia repair procedures which employ a mesh product are performed in the U.S. each year. Typical review times for 5 10-K notifications are 90 days. However, we hope to hear from FDA regarding the submission sometime prior to the end of this year.

From October 19th to the 21st, the company hosted 33 U.S. cardiovascular surgeons at the company's annual fall symposium for cardiac reconstruction. The attendance this year was well above the attendance of last year. The symposium was held in the company's learning pavilion at its corporate headquarters in Georgia. The course objectives were to discuss current indications, clinical outcomes, controversies and surgical techniques associated with aortic and pulmonary allograft valves, provide a practical laboratory to demonstrate and practice surgical techniques for the proper implantation allograft heart valves and to discuss the state-of-the-art and future 5D advancements in tissue engineering and valve replacement options with experts in the field of cardiac reconstruction.

The course director for this year's fall symposium was Dr. John Brown, Professor of Cardiothoracic Surgery at Indiana University School of Medicine in Indianapolis. The honored guest of the symposium was Sir Magdi Yacoub, FRCS and FRS from the British Heart Foundation and Professor of Cardiothoracic Surgery at the Imperial College, London Health Science Centre, London England.

The faculty of the symposium was comprised of Dr. Kent Zehr, chief of cardiac surgery at the university of Pittsburgh. Dr. Ronald C Elkins, Professor Emeritus of Cardiovascular and Thoracic Surgery at the University of Oklahoma, Oklahoma City and Dr. Elkins is a member of our Board of Directors, Dr. Francis Robicsek, Chairman of Cardiovascular and Thoracic Surgery at the Carolinas Medical Center in Charlotte, North Carolina, Dr. Paul [Stelder], Associate Professor of Surgery at Albert Einstein College of Medicine and Beth Israel Medical Center, New York, New York. Faculty members from the CryoLife staff were Dr. Steven Goldstein at CryoLife and David M Frank, vice president of regulatory affairs and quality assurance at CryoLife.

That concludes my comments. And now I'll turn the call back over to Ashley who will provide some financial guidance going forward.

Thank you.

I'd like to give our final guidance for 2006.

The company expects tissue processing and product revenues for 2006 to be within our previous range of guidance of between $80 and 82 million.

SG&A expenses are projected to be between $40.5 and $41.5 million, which includes the $2 million net gain from settlement of the insurance dispute, and R&D expenses are projected to be between $3.5 to $4 million. We expect record annual revenues for the full year of 2007, exceeding our previous record of $87.7 million recorded in 2002. We expect to provide more detailed guidance in our year-end conference call in February 2007.

We will attempt to keep you updated on significant corporate developments that are likely to affect the outlook for the company but can make no guarantee that we will in fact be able to identify and communicate such factors to you on a timely basis. We undertake no obligation to update our guidance or other forward-looking statements. That concludes my comments and now I'll turn it back over to Steven.

At this time we'd like to open up the conference call for questions.

[OPERATOR INSTRUCTIONS].

Our first question comes from Raj Denhoy with Piper Jaffray. Please state your question.

Good morning.

Good morning.

Good morning, Raj.

I was wondering if I could ask you a little bit about the BioGlue performance. If I heard you correctly, I think you said that price increases for the first nine months of the year were 4% which was pretty much all of the growth in the business. You know, what's going on there? Is it something still going on with the sales force or is it competitive? Why aren't we seeing unit growth in that business?

I think it's a combination of both factors, Raj. We are seeing some competitive activities. You know, one related to the approval of Duraseal, that's confluence product. That was probably maybe a year or 18 months ago. I think that we're starting to see some competitive activities in that particular area. We also saw some of -- we saw Baxter become a little bit more aggressive from a competitive standpoint too in the third quarter. In addition to that, we still are in the process of training our sales force and getting them fully up to speed with all of our products and so I think it's a combination of both of those factors. With that being said, you know, we've had a very good October as it relates to top line in general and we think that's reflected in our guidance for the remainder of the year.

Okay. So I guess I'm not sure if you gave explicit guidance for the different revenue lines for the fourth quarter but should we expect BioGlue is going to stay in this mid single digit range, maybe pick up the next year, or what should we be thinking here?

I think on the top line for the remainder of the year we're looking at BioGlue being between $39 and $40 million and tissue processing revenues to be between $40 and $41 million and the other device revenues of approximately a million.

Okay. The other question I had was largely on gross margins which I think plays into BioGlue a little bit. If we do the math correctly, the gross margin on the tissue being 33% it would imply that product gross margins are something like 83% which is better than it's been historically. I'm curious why that number is trending up or if there's something in there we're missing.

We did have small price increases in some of our other devices including BioGlue and that has created some additional margin expansion for us in that business.

Okay. So should we expect that to stay in this kind of 57, 58% kind of range here?

I would think that that's fair for the remainder of this year.

Okay. Just maybe one last one. On the bioform deal that was announced earlier, how much experience has there been using BioGlue in aesthetic procedures. I wasn't aware of much. Apparently it has been tried. I was curious if you could share the evidence or the procedures.

The initial indication that bioform will be pursuing is for brow lifts. And we are aware through some of the medical literature that BioGlue has been used successfully in brow plasthes, one particular surgeon in the Bay area that has used it quite extensively. And we think that BioGlue -- there is a pretty good potential for BioGlue in that particular area. Bioform also believes that there could be several other potential uses for BioGlue in plastic and in cosmetic surgery. So they're very excited about this opportunity, as are we. And we look forward to them moving that process forward and getting the product through the FDA.

And that was my last question. So what does that time line look like? Are these 510-K kind of approvals?

It's a PMA. They are currently in the process of talking with the FDA about trial design and so forth and the gating step is going getting IDE approval and starting the trials. With all that being said, bioform believes that they will be able to get the product on the market in the U.S. within three years. And there's also an opportunity to actually get the product on the market in international markets within the next year because of the easier regulatory approval process.

Okay. Great. Thank you.

Our next question comes from the Richard Myers with Emerging Growth Equities. Please state your question.

Thank you. Good morning, Steve and Ashley.

Good morning.

How are you?

Great. Congratulations on another great quarter, putting together a good string here.

Thank you.

I wanted to go into the BioGlue gross margin a bit more. As I calculate it, you had had nearly 84% gross margin in BioGlue in the third quarter, which as far as I can tell is a company record. Is that correct? And if so, has there been a price increase that just went into effect? Is that why?

We did have a smaller price increase that went into effect on July the first. You are correct, our margins are at an all time high for BioGlue and we would expect that that would continue.

Well, that's great. I mean, that was my next question. Is this a one-time thing or is somewhere in the 83% range, that's something you could see continuing?

Yeah, I think that we would expect to see BioGlue gross margins be in the mid 80% range.

Mid 80. So that means there's even room for further improvement from here?

Potentially.

Okay. I don't want to put words in your mouth but that's pretty attractive.

Next I wanted to confirm that the insurance gain that we've been talking about, I had recorded that as a $2.25 million gain and the decimal place seems to have been left off on this call. Is that correct?

That was the amount of the gross settlement. The net settlement that we are reporting today of $2 million takes into account the fees associated with, our fees associated with settling that particular dispute.

So if I were to carry out to a few more decimal places, is it 2.0 or what exactly is the net settlement.

2.0.

2.0 net. All right.

Then that actually brings me to my next question, which is if you take out these net -- this settlement and I believe that Q2 also had a one-time G&A impact, if you take all that out and you just look at core G&A without any adjustments, your G&A expense trend seems to be declining over the past few quarters. Why is that and what should we expect of your G&A trend in Q4 and going forward?

I think that for Q4, you should probably see levels comparable to what you've seen over the last couple of quarters. I think the primary reason that we're seeing our G&A expenses in a favorable trend is that again, over the last two or three years, we've had a lot of activity related to litigation and investigations and so forth and we're seeing a lot of that subside at this point. So I think that that's been one of the primary factors in why you're seeing a favorable trend there in G&A expenses.

You know, going forward beyond 2006, we would expect to have obviously more guidance in our year-end conference call of about what you would see for 2007 and going forward.

All right. Well, there again, a nice trend. So congrats on that.

Your R&D guidance here for $3.5 to $4.0 million in 2006, seems to imply possibly a slight up-tick in Q4 G&A do you intend to imply that. And if so, is this indicative of biofoam finally getting some study started or possibly other things going on in R&D?

I think a lot of the uptick in the fourth quarter that could occur would be under the biofoam project that we're working with with the DOD. And again, a lot of it is going to just depend on the actual timing of the initiation of some studies that we're working on so that's why we obviously have that range for the fourth quarter. But the increase would be primarily attributable to the biofoam project.

Well, notwithstanding the exact timing, whether it's Q4 or Q1, let's say, how certain are you that any Q4 or Q1, let's say, how certain are you that any significant biofoam work will be done in any kind of near term time frame?

There's been a lot of discussion going on between our R&D staff and the DOD and I know that they've been making some progress and we again expect to see something either this quarter or next quarter in regards to moving that project forward.

Well, that would be favorable. Tissue processing gross margin, again, had another uptick. It's been relatively consistent.

Early on this year you talked about yield improvements that you expected would improve gross margin toward the back half of 2006. Is that what drove the improving tissue gross margin this quarter? And what does that say about tissue gross margins in Q4?

That is one of the primary reasons for the improvement in gross margin in the third quarter. We do believe that we have room for more improvement in gross margin this year, although I'm not going to be any more specific than that. But we do believe that we have the opportunity for more improvement in gross margin.

Good. We talked about -- Steve, you talked about SynerGraft That's a product that I have great interest in. I think it's got tremendous potential.

We were -- I think we were looking for a 510-K or some form of submission, I suppose it's a 510-K, kind of by year-end with possible approval by around the first quarter, end of first quarter. Has there been a slight delay? That process?

There has been a slight delay in that process due to all of the complications of patient privacy and getting the approvals from the individual patients to examine their records and release their records to the clinicians and bring them in for study. But things are going along very well. I think probably the -- we're expecting the submission of the 510-K patient data on those 300 people to go in probably the middle of January. It's really only been a slippage of a couple of weeks but with all the new regulations concerning privacy, it's given us a few headaches.

So if submission is middle of January, we could be looking at --

I said that we would look for a response in the second quarter to be conservative.

So it could be early in the second quarter.

It could be, yes.

All right. That's very good. And what are some of these humanitarian applications for sin graft?

One of them would be the aortic valves. The reason that we do not have a 510-K application for the aortic SynerGraft process valves is that the FDA wanted to have more bigger numbers of them to study and so we thought -- we do have a fair number of them, you know, probably 100 or so, but they wanted multiple hundreds and they just -- they don't exist at this time.

So we felt that it would serve a useful purpose to get a humane device exemption if at all possible.

The other area that -- product area that we had prior to the dispute with the FDA over the classification of these products was for femoral arteries and saphenous veins and other vascular grafts and so we are also planning to have a humane device exemption for the vascular grafts that we have preserved with the SynerGraft process. They performed very well. We have very good data to back up our position on that and we think that these alternative regulatory pathways should be relatively straight-forward for us to get that technology into the hands of the physicians for patients that have significant issues.

So I'm hopeful that that will go forward unimpeded.

Great.

The primary area you see where this would be used, the vascular grafts would be used, would be for revascularizing lower limbs for patients that have severe diabetes or for AV access devices for people on kidney dialysis machines and so often those people become -- their grafts, their synthetic grafts become badly infected over time and the tissues have shown a remarkable ability to resist infection and to stay open and patent, in other words, over long time frames. And the SynerGraft process reduces the antigens on the surface of the tissues and makes them more biocompatible and that's one of the reasons we feel that they have worked so well in the clinic.

Yeah, that's one of the reasons I'm excited about you getting some of these SynerGraft devices back on the market.

It's just a matter of working our way through the issues with the FDA and being able to prove that they're safe and that they are comparable to standard processed tissues. We don't have to prove -- I mean, the application format that we've used does not require us to prove that they're superior at all. It just requires us to prove that they are equal or comparable to standard processed human vascular grafts or human heart valves.

Great.

That's an important point.

Yeah, you got that compromise several months back.

Yes.

That was an important one.

That's very important.

Yes. Let me move on to the -- this key strategies that you laid out in the separate press release. You are quoted as saying you expect you will soon be able to report continued progress on these initiatives.

I suppose you can't tell us what that's going to be but could you outline what areas of progress you expect to see?

We're looking at some new product platforms that are very appealing to us and fit into our areas of expertise. That's one thing that we've been working diligently on and we're a ways away from making an announcement about anything like that. I want to wait until we got a deal done there. And also there has been some interest in purchasing some of our devices that we have that we market overseas and we're talking to people about that as well.

The BioDisc study, the 300 patient -- or 150 patient study, whatever it is that you outlined earlier in the call.

Yes.

Who is going to pay for this? Is that part of the arrangement that you're trying to work out around the time you get the CE Mark?

Well, we had hoped if we had a partner identified at that time that we would do it jointly. But we certainly do have the financial resources to do that ourselves. And we're proceeding right along that -- on that track.

How much approximately would this cost?

We think it's going to cost us at least a million dollars.

But over three years or a million dollars a year?

I'd say a million dollars a year. To get this done and to get all the patient follow-up that you need to do. But under the present circumstances we feel we can afford that.

And you would be -- if it took you three years to get this approved, I suppose --

No, we're talking about two different things.

If we get the CE Mark in Europe, it is approved for general distribution.

I see. In Europe.

In Europe. Okay.

And if we get the CE Mark in Europe then we with are going to conduct another study at five to seven clinics with up to another 150 patients in an expanded pilot study to build our patient data information base to prove the safety and efficacy of this new treatment modality. Those implants may or may not be suitable for augmenting American IDE submission. But we haven't made any comment on when we plan to file for an IDE on the BioDisc. We're -- that's down the road a little bit.

But if we get a CE Mark, it is formally commercially released in Europe.

And then so would the hope be that could you fund the study with the incremental revenue would you get from the product?

Yes, exactly.

So no incremental expense as we would think of it?

That's right.

Okay. That's great. Well, Steve, congratulations on bringing us this far and the really good progress that we've seen over the last many quarters, now.

Thanks a lot, Ray.

Ashley too.

Our next question comes from Joseph Riccardo with Bear, Stearns. Please state your question.

This is Scott Shevick, this is a question for Steve.

I'm having a hard time understanding the board's thinking on how to maximize, best way to maximize value for the company.

You have a stock that's probably worth privately at 100% premium or something close to that. You have a stock that hasn't done anything for the last four years. It's down 86% from its peak. Appropriately you started a process a year ago, one year later you've identified some things but really implemented nothing. And what you're embarking on it looks like an operating turn around to narrow this gap between what the company's worth and what it's trading at, and yet you offer no real financial targets or specifics on how you're going to generate as you say in the press release significant revenue and earnings growth in the years to come.

So the only thing we have to go on is a revenue number for '07. There's no earnings guidance. There's no return guidance. There's no specific segment guidance. So I was wondering, I guess my question is pretty simple. So I was wondering -- I guess my question is pretty simple. How do you define significant revenue and earnings growth?

Scott, this is Ashley.

I was hoping Steve. I don't think you're on the board. I wanted to just hear from a board member.

Well, I think that the growth of the company over the past year and the recovery of the different product lines has been truly significant. And based on how the company has been responding there, recovering, rather, and the internal projections that we have made for next year that I cannot share with you at this time are really very positive from the standpoint of the board.

If I could have a follow-up, I mean, the company has a lot of value, a lot of opportunity and I would assume that you've just finished a year-long strategic review, so it's unclear to me why we couldn't get some of the thought process on what tissue might be over the next year or two, what BioGlue, what the financial opportunity of the disc. I mean, you just went through a year-long process.

We went through nine months.

Well, nine months.

Yes, that's right.

And so we're waiting until February?

Yes.

Thank you.

Our next question comes from Raj Denhoy with Piper Jaffray. Please state your question.

I was just going to ask a little about the ProPatch product.

I think you've talked about it in the past. In relation to I think rotator cuff augmentation. Now you're moving it a bit into hernia. I believe that's been sitting at the FDA since midsummer. I was wondering if you could update your thinking about that product, it's also a [decellularized] product. I'm not sure whether it incorporate SynerGraft or not. Maybe just provide us a little more color on what's really there.

Yes, we did submit the 510-K in about June-ish and they had some questions about it. Wanted additional information and we submitted that information in October. And we feel that the opportunities for this product really in the hernia repair market is an excellent opportunity for -- what I want to say, a surgical patch that could be used in that regard. We're not -- the 510-K doesn't specify exactly how the product would be used. It's a 510-K for a surgical patch and surgeons use surgical patches in many different areas of the body. These are just areas that we have identified that we will focus on because of the size of the market and the typical use of this kind of a graft for soft tissue repair.

If I could ask just a little bit how it's processed. Is it cross linked as other animal skins are?

It is not.

So it's a different --

It's essentially using our SynerGraft technology. It is not a crosslinked product. And we -- even though we are going to be looking at hernia because we think that represents a great opportunity, we're also going to be continuing to look at the rotator cuff indication also.

But isn't approval of this, though, contingent upon getting SynerGraft as a whole signed off on by the FDA?

No, it is not because the two different path ways. The CryoValve SG, the SynerGraft technology applied to our human heart valves and the SynerGraft technology applied to the vascular grafts are a different regulatory pathway from the SynerGraft ProPatch material which is a xenograft. So it's two separate independent regulatory process that are ongoing.

The fact that it is going to be regulated as a medical device given that it's animal tissue, and that there aren't any SynerGraft-sort of approved devices at this point. Is there some risk that the FDA is going to ask for more data on this?

That's always a risk, Raj. But I think one of the key advantages of having a SynerGraft xenograft product is it's terminally sterilized which I think has maybe been some of the hang-up with some of the issues that we've had with tissues over the past few years. But this is a completely different situation. It is, again, terminally sterilized and we feel pretty comfortable with our shot at getting this approved.

Okay. Where do you think it's going to fit, though. When you look at the hernia repair market it's getting increasingly crowded with Alloderm, and similar products coming from Vard, etc. Will it fit at the more sort of complex hernias? Kind of more middle of the road kind of stuff. Do you have any thoughts where it will be used once it gets out there?

Once we get it approved, I think that one of the first things we're going to do is get together a focus group of surgeons and conduct some post-approval studies to develop the data that we need to go out and effectively market it. So that's one of the things that we're going to be discussing with our surgeon consultants in that particular area and after we've had the under the to do that, then we'll be moving forward.

During the recent physician symposium that we had here just a couple of weeks ago, there were a number of products similar to that patch that were shown to the surgeons during a laboratory session and we learned at that time that there is a fair amount of dissatisfaction with many of the products that are on the market, and we had numerous physicians at that seminar that were very interested in how they could use this type of decellularized patch in their practices and we we were very encouraged by that. Particularly encouraged because there doesn't seem to be something that people are generally satisfied with. There seems to be an opportunity, therefore, for a product that would be more physician-friendly, let's put it that way.

Okay. Fair enough. Thank you.

Thank you. There are no further questions at this time. I will now turn the conference back over to management to conclude.

Well, thank you very much for attending the meeting with us today. And we look forward to talking with you at the end of the year.

Thank you. Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. Thank you all for your participation.