百特醫療 (BAX) 2003 Q2 法說會逐字稿

Good morning, ladies and gentlemen and welcome to Baxter International's second quarter cash flow and earnings conference call.

Your lines will remain in a listen-only mode until the question and answer segment of today's call. At that time, if you have a question, you will need to press star, then the number 1 on your touch-tone phone.

This call is being recorded by Baxter and is copyrighted material. It cannot be recorded or rebroadcast without Baxter's permission. If you have any objections, please disconnect at this time.

A replay of today's broadcast can be accessed via Baxter's homepage, www.Baxter.com.

I would now like to turn the call over to Mr. Neville Jeharajah, Vice President Financial Planning and Investor Relations at Baxter International. Sir, you may begin your conference.

Thank you, Theresa.

Good morning, everybody. By now I am sure you have seen a copy of our press release for the second quarter 2003. As the press release indicates, comments regarding the outlook contain forward-looking statements and actual results could differ materially from our current expectations. Please refer to our SEC filings for more details.

Now let me turn the call to Harry Kraemer, Chairman and CEO of Baxter International.

Thank you, Neville and good morning, everyone.

By now, I assume all of you have actually seen two press releases. One that summarizes the fact that we are cooperating fully with the FCC by providing information regarding our recent revisions in guidance and the second release goes through the actual performance for the second quarter.

While many of these actions that we're implementing are very difficult and adversely impact the lives of 3200 team members and their families, it is very clear that given some of the challenges that this is definitely the right thing for the company to be doing, given some of the challenges that we've had. As a result of that, and some of this is in detail in the press release and Brian Anderson will be going through in some more detail, in addition to the fact that our global workforce will be reduced by 6%, we're significantly reducing the amount of plasma that we collect and fractionate. In addition, we're realigning resources across all of the businesses, all of the regions and all of the functions.

In terms of the R&D prioritization, we're discontinuing several of investments in a recombinant hemoglobin program and two of our vaccine programs and Norbert Riedel is available to answer specific questions in those areas.

Also, we're putting significantly more emphasis as well as an intense focus on improving our balance sheet and generating sustainable cash flow.

Net-net overall, I believe that changes we are implementing will strengthen Baxter's growth rate, in terms of being profitable, sustainable capital efficiency, as well as our profitability, as well as our cash flow going forward.

In terms of the Q3 -- Q2 '03 performance in summary, the results are directly in line with the expectations that we had given at the end of our Q1 call, that is 41 cents, excluding the charge, 8 cents including the charge of 33 cents. Our Q2 sales increased 11%, 5 percentage points of that being related to foreign exchange. Our cash flow from continuing operations for the second quarter was $228 million, which represented a significant increase of more than 150% from our Q2 '02 performance of $84 million. And again, Brian will get into that in a lot more detail.

A few comments related to medication delivery. Medication delivery had an excellent second quarter. Their sales were $938 million, which represented an increase of 17% in the quarter. One of the largest increases came from drug delivery, which was 26%, primarily driven by the Baxter pharmaceutical service business, which was the business we had purchased from Cook. The anesthesia business, which increased 36%, which includes the benefit of the ESI Letterly acquisition.

Based on our strong performance in the first half, the business is extremely well-positioned for '03 and when I get into the outlook later, I will talk about the reasons why I believe that the ramp from the first half to the second half is very reasonable. Overall, medication delivery full year sales expectation is between 12 and 16%, which is exactly what the original expectation was that we gave for this year in last October.

In terms of our global renal business, the renal business also had a good second quarter. Sales were $452 million, which represented an increase of 11%. PD therapy sales was 11%. HD therapy sales was 12%. Both of those were obviously helpfully impacted by foreign exchange in both Europe and Japan.

As expected, we completed the divestitures of our U.S. renal service portfolio and we expect to complete the international divestitures of our Renal Therapy Service business by the end of this year.

Overall, our renal sales growth expectation does not change. That is what we stated last October between 2 and 5% and this is a business that right now has some very positive momentum, particularly given the new product introductions, including Extraneal in both the United States and in Japan.

In terms of the total BioScience business, Q2 sales for total BioScience were $773 million, which represented an increase of 5% in the quarter. Transfusion therapy was actually 3%. Recombinant sales were $253 million, which was similar to the Q1 level and increased 3%.

If you remember one of the comments that we made last quarter, one of the challenges was the reduction in the distributor inventories of recombinant. One of the interesting things is that the distributor inventory levels of recombinant fell from more than 100 days at year-end 2002 to between 30 and 40 days at the end of Q2 '03.

So, over the last, now, six months, their inventory days have dropped 60 to 70 days. We expect, therefore, recombinant sales growth to accelerate significantly in the second half.

In addition to this issue of the distributor inventory levels, we're assuming in the second half, the positive approval of ADVATE. Antibody therapy sales were $71 million in the quarter, which was a decline of 4%.

Sales -- the overall price decline was 16% for IGIV versus Q2 of last year and have now stabilized. We also expect -- well, our total plasma sales, excluding antibody therapy, was $230 million and declined 4% in the second quarter.

Overall, the BioScience full-year sales growth, we expect to be between 5 and 10% with a second half acceleration driven by the Advate approval, ALYX, improved IGIV and the streamlined inventory held by the distributors.

In terms of the overall improvement of the plasma profitability and returns, we go in this in some depth in the press release. Brian will talk about it further, but overall, given the current situation, we have proactively responded to the changing marketplace.

The overall steps that we're taking include: The reduction of production from 4.6 million liters to 4 million liters; Closing 26 plasma collection centers, which now will make us 90% self-sufficient; We're closing Rochester, which has 700,000 liter fractionation capacity; and we're continuing to drive efficiencies and yield improvements.

As a result of these changes within the BioScience area involving plasma, we expect higher revenue per liter; lower, but more profitable sales; and an increase in our gross margin; our operating margins; our overall cash flow ;as well as our return on capital.

At this point, I will turn it over to Brian Anderson. Brian?

Thank you very much, Harry and good morning, everybody.

If you turn to page 7 of your press release, I'd like to just go quickly through the P&L and I will follow that with a discussion on cash flow.

As Harry just mentioned, sales growth in the second quarter was 11% and benefited by about 5 percentage points from currency. The gross margin in the second quarter was 45%, a 2 percentage point decline over last year and the decline in gross margin year-over-year was primarily due to the impact of pricing in our plasma business and product mix, primarily lower recombinant sales.

The SG&A ratio in the quarter was 21.5% and quite frankly, after several quarters of SG&A below 20% and SG&A actually trending down, what you've seen in the first quarter was SG&A at 20.7% and SG&A at 21.5% in the second quarter.

Clearly, this ratio is too high for a company with our gross margin profile and, quite frankly, you know, I think we let our G&A spending get out ahead of our sales. And -- and as a result, we're taking very aggressive action with the restructuring that we announced at the -- in the last few weeks. Which will result in roughly 50% of the head count reductions that are -- as a part of this action, being in G&A function. So, clearly, G&A ratios above 20% is not acceptable and we're aggressively addressing cost reductions to bring that back in line.

At the same time, we're making the appropriate investments in sales and marketing to drive the product launches that are a key part of the company's growth going forward.

R&D in the second quarter was $139 million, on very similar to the first quarter, and R&D increased 13%. The restructuring charge was $337 million pretax, after-tax, $202 million or roughly 33 cents a share, 2/3 of the charge is cash, the remaining 1/3 is non-cash. And approximately 3200 positions are being eliminated from the company. Half of that in manufacturing and virtually all of the remainder in G&A functions, as I just described.

When fully implemented, we expect annual savings from this restructuring program in the range of 15 to 20 cents per share, which will more than offset the anticipated increase in pension and other employee benefit costs in 2004 and beyond.

The operating margin in the quarter was 17.1%, compared to 16.6% in Q1 and compared to 21.2%# in last year's second quarter. Obviously, the significant decline in gross margin, increased SG&A ,and R&D spending, contributed significantly to the decline in operating margins year-over-year.

Sundry, in the quarter, was $14 million, primarily due to FX.

Interest expense was $27 million in the quarter, higher than the first quarter due to the bonds that we issued in mid-March.

The tax rate was 24% in the quarter, similar to Q1 and consistent with our overall guidance for the full year and the tax rate, as you know, is -- is impacted by the mix of sales across our different geographies around the world.

The share count in the quarter was 613 million shares and earnings per share from continuing operations, excluding the charge, was 41 cents, a decline of 16%.

Now, turning to page 7 of the release, on cash flow. I'm sorry, page 8 of the release, cash flow from continuing operations in the second quarter was $228 million, compared to $84 million last year and our year to date performance was $205 million in operational cash flow, compared to an outflow of $11 million last year. A very significant improvement in our cash flow performance on the year-over-year and we absolutely intend to continue driving these improvements.

DSO at the end of Q2 was 65.8 days. Very comparable to the end of the first quarter.

Inventory turns declined from 2.3 turns in Q1 to 2.2 turns in Q2. And inventory turns in the quarter continued to be affected by the higher level of plasma inventories, particularly for work in process, due to the long manufacturing cycle for plasma products, as well as our increased inventory related to new product launches. And I will comment a little further about inventories in a second.

Working capital consumption in the quarter was $150 million in Q2 of this year, compared to $300 million in last year's second quarter and $275 million in the first quarter of this year. So, again, some positive momentum in terms of using less working capital in the business.

Capital expenditures for Q2 were $183 million, roughly $9 million higher than Q1 and last year's Q2 capital expenditures was $196 million.

Now, as it relates to improving our balance sheet and cash flow, as Harry just mentioned, I'd like to just make a few comments to give you a sense of some of the actions that we're taking.

Obviously, given this increased focus on our balance sheet and cash flow performance, I've dedicated several of our best finance people around the world to drive specific actions related to working capital in all of our businesses and regions.

I'd like to just make a few comments on inventories, receivables, payables, capital expenditures and then finally, our overall capital structure. As I go through this discussion, I think you will gain an appreciation of the reasons for my high level of confidence in our ability to meet our cash flow objectives to generate approximately $1.2 billion in cash flow from operations this year, and much more importantly, to significantly improve this performance going forward.

Now, turning to inventories, we've implemented several improvements in our supply chain processes and the tools to make those processes efficient in our medication delivery, our renal and transfusion therapies businesses. Additionally, as a part of the restructuring action that we've just announced, we will close a few small plants and manufacturing lines within these businesses to improve overall inventory management and operational efficiency.

As a result of the actions we have taken so far, average turns for these businesses improved 7% in the first half of this year and I expect a 10% improvement in turns for the full year. These three businesses account for about 45% of our global inventories with average turns north of 4% -- four turns per year and improving very nicely. So, I'm very satisfied with the performance and more importantly, the continued progress on the initiative in these businesses.

As I said before, the real opportunity for significant improvement is in our BioScience business. We've made good progress on recombinant.

Recombinant inventory levels for our Gen1 product remains at approximately 30 days on hand and the significant progress was really in working with our distributors to significantly shorten the number of inventory days in the channel. And as Harry just mentioned, we've reduced the days in the channel of our product with distributors from over 100 days to 30 to 40 days at the middle of the year, compared to prior year-end.

Finally, and most importantly, our decision to close the Rochester plant, as well as 26 plasma collection centers, significantly -- will significantly improve the overall economics of our plasma business, which is really the significant source of our inventory issues of the total company.

Given that this is a very long cycle business, as I've said on many occasions, these benefits will not be fully realized until 2004 and beyond. But just in terms of highlights for -- to give you a sense for the economics of this restructuring action, the overall after-tax costs for the actions we're taking is roughly $40 million and as a result of these actions, we expect incremental cash flows from the plasma business over the next three to four years of north of $300 million.

And as a result of our improved cost position in this business, we expect improved gross margin and improved profitability even though we'll be selling less -- less volume of plasma products, but these -- the lower volume will be a significantly improved gross margins.

So, in summary, our issues in the plasma business have much more -- have offset the progress that we have made in all of our other businesses. The actions that we announced in the second quarter related to the plasma business will clearly address the -- the key issues facing that business. And while overall inventory turns will be relatively flat this year, I believe we're now much better positioned to improve overall inventory management for the long-term as the impact of our plasma capacity reduction is fully realized.

Turning to receivables. Receivables for Baxter is -- the trade receivables, is roughly $1.8 billion with about 25% of those receivables in North America, where DSOs are well below 40 days. DSOs for regions outside the United States bring the overall company average up to about 65 days.

So, most of our focus and initiatives on driving down DSO are -- are focused in -- in regions outside the United States. And all of these regions we're evaluating all of our customer relationships where profitability and returns are not improving and we're taking specific actions with customers to improve the overall returns and performance, including, in some cases, exiting these relationships where the returns are not acceptable.

We're also, in some cases, changing the terms of doing business with these customers, to COD terms. And I'm focusing a lot more of our resources and some of our best resources on increased collection activity and more importantly, on the economic analysis of customer account profitability and the returns associated with doing business in certain regions around the world. We're also aligning incentives much more tightly with cash flow objectives on a quarterly basis.

In the accounts payable area we'll continue to aggressively manage accounts payable. And while the cash costs of the restructuring, which is approximately $209 million, is significant, most of this cash cost is for severance, which absent these actions, would have been otherwise normal incent on payroll. Most of this, is therefore, not incremental cash outflows.

Based on all of these actions, I expect $200 to $250 million in full-year improvement in working capital consumption in 2003 compared to 2002, and most of this improvement will come from our focus on accounts receivable.

In years going forward, I would expect continued improvement in receivables, as well as significant improvement in inventories for the reasons I described related to plasma.

Overall cash flow from operations, given our overall earnings and working capital improvement, will be approximately $1.2 billion for this year. I expect capital expenditures for 2003 to be in the $750 to $800 million range.

And as we head into '04 and beyond, we expect to continue to significantly reduce the level of capital spending because we now have the capacity investments in place and all of our businesses, especially BioScience, to meet the expected demand for our products.

Overall, as it relates to our capital structure, I've mentioned on the last call that one of my primary objectives is to work very actively to simplify the financial instruments utilized in our capital structure.

We will exit the remaining equity forward contracts in the third quarter of this year. That's 12 million shares with an obligation of roughly $600 million.

And in the past, we've also entered into a handful of synthetic leases to finance our operations. We would not enter into these transactions in the future and the very modest off-balance sheet obligation, which is less than $200 million, and the related assets, will be placed on the balance sheet in the third quarter of this year.

We continue to operate with net vested capital and interest coverage ratios well within our existing debt covenants. And gross debt in the second quarter declined as a result of the retirement of our convertible bond issue. And net debt to capital in the quarter was 46.7%, very similar to the first quarter of this year, even after absorbing the restructuring charge that I talked about earlier.

The debt equity calculation for those of you newer to -- to following Baxter, assigns 70% equity credit to the equity units that we issued with our convertible debt offering in December, which is consistent with -- of the way our -- our creditors look at our debt equity.

Our overall pension program, as I said before, is currently under funded, but we're not required to make any contributions into the pension plan until the end of 2004, at which time a contribution of about $100 million will be required. And I'm very comfortable that we will make that contribution without impacting our ability to continue to significantly improve cash flow generation going forward.

Now I turn it back to Harry for the summary and outlook before we take your questions.

Thanks, Brian.

For full year 2003, in terms of sales growth, our range is between 8% and 10% in terms of expectations, with our expectations for renal being between 2% and 5%, medication delivery between 12% and 16% and BioScience between 5% and 10%.

Our EPS from continuing operations, including the charge of 33 cents, we expect to be between $1.65 and $1.75 a share. Our estimate or expectation for our share count is approximately 615 million and as Brian indicated, our cash flow from continuing operations, $1.2 billion.

In terms of our guidance for Q3, we would expect in the third quarter our sales growth to be 8% to 12% with the growth rate for the individual businesses being consistent with what the estimate is for the full year. That is the expectations for renal for Q3 between 2% and 5%; Medication delivery between 12% and 16% and BioScience between 5% and 10%.

Our EPS expectation for the third quarter is between 45 cents and 50 cents. Clearly, this implies a significant Q4, which will be driven by several factors.

No. 1, the even higher second half sales and medication delivery, including very strong growth from drug delivery, ESI Letterly, as well as significant hardware sales.

No. 2, a significant improvement in IGIV sales due to both increased unit volume and stable pricing. As I had mentioned in our prior call, I think the inclusion now of a separate sales force for IGIV, making sure that we're driving compliance with the new GPO agreements, as well as focusing on the home care distributors.

The third major area in the second half ramp-up is for our recombinant sales. We expect our second half recombinant sales between 15% and 20% versus prior year, with a combination, as I said earlier, of lower levels of recombinant inventory in the distributor channel, 30 days today compared to over 100 days at the year-end. And also, the expected launch of ADVATE with enhanced gross margins, given both the price premium as well as higher yields.

Given that the second half sales acceleration is driven primarily by higher margin products, I expect our operating margins to improve in the second half. Again, primarily due to the launch of ADVATE, as well as the savings of approximately 5 cents per share related to our recent restructuring announcements.

In terms of just the few changes here, our third quarter is scheduled for October the 16th. At that time, we will provide -- we used to provide guidance for full-year '04, however, as is the case with many other healthcare companies in our sector, we will begin to provide guidance for '04 on the January '04 -- Q4 call, after we have completed '03.

One other change, in order to answer as many questions as possible during the Q&A, I'll try to keep the - my answers much shorter than in the past. Which will be a challenge. Please ask for follow up if you'd like additional information. And at this point, we'll be more than happy to take any of your questions.

Thank you, we will now begin the question and answer session.

If you have a question, you will need to press star, then the number 1 on your touch-tone phone. You will hear an acknowledgement that you've been placed in queue. If your question has been answered and you wish to be removed from the queue, please press star, then the number 2.

If you are using a speaker phone, please pick up the handset before pressing the numbers. Once again, if there are any questions, please press star, then the number 1 on your touch-tone phone.

Your first question comes from Dan Lemaitre of Merrill Lynch.

Good morning, everybody.

Just two quick questions on the BioScience side.

First off, just trying to do the math here on what the actual inventory impact has been to get a sense for what actual demand has been on the recombinant side. Sales of your recombinant products have been fairly flat for five quarters at about $250 million. And so if we're just trying to gauge, specifically in the first half of this year, could -- could the inventory have impacted reported sales by as much as $100 million in the first half of the year or -- because it's just impossible for us to back into what those numbers might look like?

I think the underlying growth rate is somewhere around 10%. In terms of the actual product used by patients.

From the second half of last year or from the first half --

On a continual basis.

Okay. Okay.

And then, Harry, I guess just -- 10%, thank you. And one follow-up, then.

On the decision to back out on the plasma side, obviously you guys are scaling back from 4.6 to 4 million liters. What percent of the total market do you think that represents?

And what are you doing and what kind of things are you monitoring to figure out if this is going to result in other folks rationalizing their fractionation capacity or if it's -- if it turns out to be a signal that there's a land grab available and they actually get more agressive near-term?

Dan, it would be my expectation that given what we're doing to improve our overall position, that other people will follow. I think we're the first folks that are proactively reducing their volume, ours is by 13%. I think this makes sense to do. What other folks are going to do, I don't know. I think this will significantly help our long-term economics.

And do you think you're about -- would that be about 3% of the industry total, best guess? I mean, is there about 20 million liters of plasma that's fractionated?

I wouldn't comment on that, Dan, I'm not sure.

Okay, thanks, you guys.

There is a question from the line of Mike Weinstein of JP Morgan. Please state your question.

Thank you. We have a few questions. Let me try to - quick numbers questions.

Brian, can you spend another minute on the SG&A line? Your SG&A increased $50 million sequentially and was up 22% year-over-year. Was there an accounting change or anything that occurred that would cause to rapid delta in that line?

Well, one of the biggest impacts, Mike, is the transition effect of currency, which accounted for about 8 to 9 percentage points of that increase. That's the biggest single driver.

The -- the sales and marketing investments were up modestly but, you know, FX is definitely the big outlyer. And more importantly, what we need to do is aggressively take out costs, and that's what the restructuring is about.

Okay. And then a couple of BioSciences questions.

What is the status of your activities on generating plasma Factor 8 demand outside the United States? Obviously with the capacity, you have to come in on the competitors for recombinant factory.

You've talked about going out and signing contracts with other countries to begin to ship plasma Factor 8 when you can guarantee availability. Are you doing that now?

Yes. Yes we are Mike, and in fact, Carlos del Salto, the intercontinental teams are working with various countries to do that in terms of the tenders. As the tenders come up.

And Harry, can you give us any sense on where the pricing for plasma Factor 8 plays out outside the United States versus in the United States?

I would just say somewhat lower, Mike.

Would somewhat be 10% or -?

I won't comment.

Okay.

And last question, if I can. On the expected approval for ADVATE, can you give us any sense on what you think the labeling for ADVATE might differ for recombinant? Thanks.

Norbert, you want to? Mike is asking the question of how the labeling could change for ADVATE versus recombinant.

You know, we are in the final discussions with the agency on the labeling, so, at this point I will not be able to discuss that to you. But we will let you know that upon approval of the product, which we continue to expect to occur in the second half of this year.

You are in labeling discussions now?

That's right.

Thank you.

The next question comes from the line of Rick Wise of Bear Stearns.

Hi. Good morning. Several questions.

First, what has the hold-up been with the FDA in terms of getting the ADVATE approval? And maybe you could flush out your assumptions, your working assumptions, when you say that you -- that you've assumed that there are some ADVATE sales.

Can you give us some sense of what that contribution might be in the third quarter? And maybe talk a little bit about your uptake assumptions for the product, how quickly it can penetrate the market?

Rick, a couple of things, number one, there's been no hold up in the approval for ADVATE. We have consistently said we would receive approval for the product in the back half of this year and we will. If you remember, the file was submitted June the 30th.

Number two, everything is going extremely well and is exactly in line with what we've stated over the last several quarters. And, Norbert, if you'd like to add anything to that, please feel free.

No, actually, you just said it, Harry.

I think we are, indeed, very much within the timeline that ought to expected for a submission of this nature, both in the United States, with the FDA as well as with the European regulators and I continue to be very, very confident that the file is moving along very nicely and all interactions that we have had with the regulators are very, very positive. So, there's no -- there's no reason whatsoever to look at or talk about a hold up with respect to the submission and the review process of the file.

And the -- the uptick assumptions in the third quarter?

I would not comment on exactly how much ADVATE we would expect to sell when, Rick.

Okay. I will try something else, then.

The plasma protein price trends stabilizing, how long have you seen the stabilization? And does stabilization mean they're at literally flat sequentially and -- and is that trend still improving month by month? Can you give us some sort of more concrete feeling for the trends there?

Sure, Rick. I would say relatively flat consistently for the last six months.

And is it likely that they stay there or --

Predicting the future price and price changes up or down, I have no intention of doing, Rick.

Okay, maybe last question for Brian, where do you think net debt to total cap is going to be -- or what are your goals or general goals 12 months hence?

Well, you know, our longer term goal over our, you know, strategic planning horizon is to drive net debt to capital, you know, down to 30%. That's our -- our target. Our previous target was a 35% to 40% range.

I won't get into the specific targets for next year. As Harry just said, we're going to give guidance for the overall operating plan for next year in January, but clearly my intent is to make sure that any incremental cash flow generation goes first to reduce debt, consistent with that objective to drive aggressively toward a 30% target.

Thank you.

The next question is from the line of Ben Andrews of William Blair.

Great, good morning. Two questions for you.

Brian, can you let us know what your currency impact assumption is for the third quarter and the full year on the guidance you've provided?

I think overall currency, you know, helped the second quarter by about 5 points. I'd say for the back half of the year it's going to be slightly less than that, maybe in the -- in the 3% range and full year would probably average out, you know, between 3 and 5.

Okay.

And then second question is on the recombinant product.

I've started hearing from some of the distributors about episodic shortages in certain sizes on recombinant. Is that an intentional strategy on the part of Baxter to prep for the ADVATE launch to keep inventories low? Or are you having any sort of manufacturing disruptions? Thanks.

Ben, we are not having any manufacturing problems of any kind. We are producing as much as we can and we're continuing to keep our inventory at approximately 30 days. And we're waiting for approval for ADVATE.

Thank you.

Your next question is from the line of Theodore Huber of Wachovia.

Hi there. Thanks.

Harry, I'm just trying to wrap my arms around this fourth quarter estimate that's implied by your full year and third quarter guidance. And it looks like you're really talking about a range of 76 to 81 cents.

Now, that represents, if you take out these charges, somewhere between about 28% and 37% EPS growth year-over-year, when you've been trending really down almost 10% in the first three quarters. And I'm just trying to understand what can drive that.

Clearly that kind of growth can't all come from ADVATE, perhaps if there's something non-operating contributing here or if there - If you could give us more color on the medication delivery side, you know, what really supports this tremendous turn around quarter-to-quarter?

Okay, fair question.

It's really a number of things, and if you go business by business, each one of the businesses will have significantly better performance in terms of our expectations, Ted.

First is the whole approval of ADVATE, that one is pretty clear. You can imagine the impact of that. Brian's indicated that. Norbert's talked a little bit about it, but the impact of both the approval, price and the higher yields.

Second, if you think about mathematically the impact of what's happened related to the inventory levels held by the distributors and the fact that now in the back half we would expect the growth rate to be significantly higher, particularly in the fourth quarter.

If you take a look and think through what's happening, the impact year-over-year related to the pricing stabilization of the plasma products, And also, if you take a look at what happens within medication delivery and you actually take a look at what happened, even last year, in terms of the increase in sales and earnings from the first three quarters to the fourth quarter within medication delivery, in terms of their historical pattern, the fourth quarter is typically a very significant ramp-up.

The approval of ALYX helps transfusion therapy and particularly as we get through all of those validations, as well as the validations for Intercept, IEPI, the majority of that would hit within the fourth quarter.

Are there any specific product launches, Harry, in medication delivery that you point to that can help drive that business second half here?

Yes, there's a significant number of products, particularly within BPS, the Baxter Pharmaceutical Services, the drug delivery area that Dave Drohan and Joel Tina talked about at the growth conference together with ESI Letterly.

Okay. And just one other follow up on the recombinant side.

Can you comment on -- if the inventories are down to 30 days, it sounds like part of your expectations that there needs to be a reloading in the channel out there, at least U.S. What is the appropriate level of inventory that you ought to build it back up to?

And then secondly, any comments that you've heard back from the field in terms of whether or not you can get the -- the premium price for ADVATE from your initial discussions with customers would be helpful.

A couple of things.

Number one, I do not know whether there would be expectation of a reloading or not. I think distributors have gotten down to what they believe is a reasonable level of inventory and we're prepared to make sure that as the business grows we're able to serve them as whatever level they decide to hold their inventory.

In terms of premium pricing, while I wouldn't get into specifics, I would state, Ted, that we are as optimistic as we have been over the last 12 to 18 months related to the marketing, the timing of the approval and the pricing for ADVATE.

Okay. That's helpful. Thanks, Harry.

Sure.

The next question is from the line of Matthew Dodds of SG Cowen.

Thanks.

A couple of questions. First on the plasma side.

Part of improving the plasma cost economics still seems to be a mix shift away from your outsourced plasma to internal collection. I'm just wondering if there's any near-term contracts expiring that could benefit you in Q4 - can be part of Q4? Or anything in '04 as well that could help there?

That will happen, Matt, on a continuous basis, not on any one stairstep.

Are we talking three to four years here, Harry, or less than that?

I would say several years, not three or four.

And the second question is on vaccines it looks like that was way up in Q2, both year-over-year and sequentially. Can you give us any color there?

I wouldn't get into any specifics, Chief, in terms of anything in addition to what's been happening all along. Pretty much, FSME clearly has had an impact, but nothing unusual.

And how about just one quick follow-up on that?

It looks like you're running above the $200 million in guidance you gave for the year in the press release. Is it fair to say it's $200 million-plus?

I would say it's doing well, I would not change the guidance. And then also, Matt, remember, you know, this one does - is volatile, depending on the season of a sale of a product. So I wouldn't get carried away there.

Thanks, Harry.

Your next question is from the line of Larry Keusch of Goldman Sachs.

Good morning. Just a couple of quick questions here.

First off, can you talk a little bit, what is involved in the range of your 3Q EPS at 45 to 50 cents, what kind of impacts that?

And then secondly, Harry, what -- what other steps are you taking to reduce costs within the organization, you obviously talked about the restructuring and focusing on G&A, but what else can you really push on, you know, over the next 6 to 12 months?

And then lastly, what do you think your maintenance Cap Ex is at the end of the day after you move through some of these changes?

Okay, well... You asked a couple of things here.

In terms of the range for the third quarter, as we mentioned earlier, we expect ADVATE approval in the second half of the year and we've included ADVATE approval as one of the many variables for the third quarter guidance. The wider range reflects this possibility.

In terms of the overall cost structure and what we can do, Larry, I think a lot of things we will do are very consistent with what we've been able to do in the past. If you go back in time, we've reduced our SG&A ratio from 26% down to 18%.

Now as he's indicated, it's been higher in the last year and our intention, particularly through the restructuring, particularly the way we're leveraging across all of the businesses to get that SG&A ratio back down to the 18% to 19% level. That would be the largest driver as well as on the gross margin piece, Larry, all of the key things we can do to continue to improve our cost position as we've consistently done. Our long-term goal for our gross margin continues to be 50%.

I think, Larry, all of the actions around purchasing and supplier management and initiatives that have been very successful for us with consolidating purchasing, looking at outsourcing where appropriate, we also have a major initiative within the company that predates the restructuring related to looking at IT across the entire company that will drive significant savings by, you know, rationalizing data centers and vendors and so on.

Larry, was there a third one you asked that we?

Maintenance Cap Ex.

Oh.

I say maintenance capital, you know, just given our overall manufacturing footprint would be in the $300 million range.

Okay. Great. Thank you.

Your next question is from the line of Glenn Novarro of Banc of America Securities.

Good morning. Two very specific and then, Harry, I want to ask you a bigger picture question.

First, on -- on expectations for U.S. recombinant market -- recombinant Factor 8 market growth. What are expectations for just the market growing in the second half of this year?

And then it seems like for ADVATE you're -- you're looking for kind of a big one-time distributor fill. Is that, you know, can you maybe comment on how big that one-time distributor fill will be with ADVATE?

And then just -- and a bigger question, I know you don't want to talk about 2004, but I wonder if you could address this: You've often talked to investors about where Baxter has come in the last 10 years. You often talked about when you became CEO, you know, the goal of the company was just to become a consistent 5% earnings grower and then over time, you know, you moved it up to high single digits and then low double digits and then low teens. Has Baxter come full-circle again, you know, or -- or is Baxter better positioned today to kind of reaccelerate growth after this difficult year? Thanks.

Fair questions.

First of all, U.S. recombinant market, I would say in excess of 10%.

In terms of ADVATE, I would say there may be a beginning fill, but I would not expect any very significant one-time -- I'm not expecting any one-time occurrence. And in terms of going forward, I guess the way I look at it, is that overall to have a growth rate in the low-teens I think is a reasonable long-term expectation.

Given what's happening, Glenn, over the last 12 months and as Brian indicated, it is extremely important that we do not let our expense ratios get out ahead of the sales. So, given the fact that our growth was lower than we had expected, we got to get our expenses back in line with where we are. And I think it's as simple as that.

Is the expectation that when I take a look at the growth potential within medication delivery and BioScience that eventually we will get back to a higher growth rate, that is clearly a long-term goal.

Are we there now? No.

Will we run the business with a tremendous amount of focus and consistency until we get back there? Absolutely, yes.

Okay, thank you.

Your next question is from the line of Bruce Cranna of Leerink Swanson.

Good morning, everyone.

Harry, can you just remind me, it's sort of a rudimentary question, but the suites in Neuchatel, I can't remember the exact timing differences. My, my- I seem to recall that the U.S. filings were in the same quarter but there was a quarter or two difference between the E filings. Can you remind us of the timing of the different filings and whether or not, you know, I'm not trying to pigeon hole you as to when you expect approvals, obviously, but can we see a staggered approval situation?

Sure, Norbert, why don't you...

So just as a reminder, the submission in the United States was at the end of June of 2002, submission we have in Europe as well as in Canada in September of 2002.

And- and it is literally not possible for me to predict approval times, as you can well imagine. But we expect both of those geographies to approve the product in the second half of this year. Actually, all three, Canada, Europe and the United States and most likely it will not occur at the same time and therefore by definition it will be staggered, if you will.

And as I mentioned before, also, Bruce asked about Neuchatel. As I mentioned before, since the product is made in Neuchatel, the facility Neuchatel will be part of the approval process of our next generation Factor 8 ADVATE. Those two go hand in hand and all inspections that have occurred both by the U.S. as well as the European regulators have gone extremely well. So everything is looking very good.

Okay, thanks. Let me take one more question.

Our next question is from the line of Bob Goldman of Buckingham Research.

Thanks. Two questions.

One, and this might have been addressed and I missed it, but you had a nice increase in international BioScience sales. I'm curious why that happened and how you view that going forward this year?

The other question is back, if I can, on SG&A. And maybe asking the question a different way.

But the last four quarters, SG&A increases have lagged sales growth and this is the first quarter in five where SG&A popped up well in excess of sales growth and even if you adjust for the currency based on the numbers that were given out it still jumped up well in excess of the sales growth.

So, again, is there something unusual that happened in the second quarter with G&A that might go away in the fourth quarter? Or perhaps might some of these restructuring benefits occur in G&A as early as the fourth quarter? Thank you.

Sure.

In terms of international BioScience, we had a very strong performance, particularly impacted by the growth in vaccines and bio surgery.

In terms of your comments related to the SG&A. The - within the second quarter, that increase could be particularly related to the increases in SG&A around the product launches expected for ADVATE, ALYX,Intercept, as well as some of the drug delivery. So, as those sales materialize now in the back half of the year, that will help it come in line, together with the impact of the restructuring that Brian had indicated earlier. And Brian, do you want to add?

I think most of that probably stands in the fourth quarter that we expect will be, you know, SG&A areas.

Okay, thank you.

Sure.

Okay, thank you, everyone, and we look forward to talking with all of you again on our third quarter call October the 16th. Thank you.

Ladies and gentlemen, this concludes today's conference call with Baxter International.

Thank you for participating. You may now disconnect.