百特醫療 (BAX) 2006 Q1 法說會逐字稿

Good morning ladies and gentlemen and welcome to Baxter International's first quarter earnings conference call. [OPERATOR INSTRUCTIONS] I would now like to turn the conference over to Ms. Mary Kay Ladone, Vice President Investor Relations at Baxter International. Ms. Ladone you may begin.

Thank you. Good morning and welcome to our first quarter earnings conference call. Joining me today are Bob Parkinson, CEO and Chairman of Baxter International and John Greisch, Chief Financial Officer. Before we get started, let me remind you that this presentation including comments regarding our financial outlook, new product development and regulatory matters contain forward-looking statements that involve risks and uncertainties. And of course, our actual results from differ materially from our current expectations. Please refer to today's press release and our SEC filings for more detail concerning factors that could cause actual results to differ materially.

In addition, in today's call, non-GAAP financial measures will be used to help investors understand Baxter's ongoing business performance. A reconciliation of the non-GAAP financial measures being discussed today to the comparable GAAP financial measures is included in our earnings release issued this morning and available on our Website. Now, I'd like to turn the call over to Bob Parkinson.

Thanks, Mary Kay. Good morning, everyone. As we open our call this morning, there's really three topics that I would like to briefly update you on. First, of course, I want to provide some overview comments regarding our first quarter financial results. John will spend time later with a more detailed review. Second I want to highlight new product and new business development activities that transpired during the quarter. And thirdly as you might expect, I'll provide an update regarding the COLLEAGUE situation.

First of all, financial results. We're pleased this morning to again report very solid progress on all of the key operating and financial parameters. In fact, our first quarter results reflect that momentum is actually accelerating on most fronts. While actual sales increased on absolute basis of 1% versus the first quarter of 2005; sales on a constant currency basis increased by 4% overall, which exceeded our guidance of 2% to 3%. After adjusting for both COLLEAGUE and the sales of the renal therapy business in Taiwan from a year ago, both of those were in last year's space, organic sales actually grew 7%. And this represents the largest year to year organic sales increase in 3 years for the Company.

Bioscience organic growth, as you saw, was quite robust 15% increase across the board. While medication delivery was negatively impacted by several items, most notably the COLLEAGUE situation, we're very encouraged by the core IV therapies business, which had a very strong quarter. And in renal, peritoneal dialysis sales increased strongly as a result of our two-prong strategy, which we've discussed with you before, both accelerating global expansion and also a back-to-basis approach in this core business. Particularly in the U.S. where our results are actually the strongest that they have been in a number of years.

And in the first quarter we also saw continued improvement in the profile of the P&L. With gross margins and operating margins improving for the fifth consecutive quarter versus the prior year. And we're particularly pleased with reported increase in EPS of 19% versus Q1, 2005. Not only does the $0.43 per diluted share exceed your guidance by $0.02, as John will discuss in some detail, we also absorbed some additional charges resulting from various customer accommodations associated with the COLLEAGUE situation.

Now, let me spend just a minute discussing our R&D efforts and new product launches and other key new business development activities during the quarter. First, new product launches. In bioscience, we launched two new products in the U.S. Flexbumin, the first preparation of human albumin to be packaged in a flexible container. And liquid WinRho, a plasma derived therapeutic, used to treat a critical bleeding disorder. We also launched KIOVIG, which is our liquid IVIG therapy in Europe, and we also received regulatory approve value for liquid IVIG in Canada.

Our medication delivery business launched sevoflurane, the world's most widely used an anesthetic in Japan. And more recently launched in both the UK and also here in the United States. As I think all of you know, with the addition of sevoflurane, Baxter is now the only Company to offer all three modern inhaled anesthetics globally. Sevoflurane Suprane, which is our proprietary inhaled anesthetic, and of course, soflurane or Forane.

On Tuesday of this week, we announced FDA approval for the new AVIVA premium line of intravenous solutions, which we plan to launch on a limited basis in the second half of 2006. While the AVIVA line provides similar functionality and benefits of the Company's existing bioflex flexible container systems; these new containers are made of non-PVC film and offer a DEHP-free and latex free fluid pathway to patients. On the R&D and new business development front, we also began patient enrollment in a Phase II U.S. clinical trial investigating the use of adult stem cells for severe coronary artery disease. Utilizing our Isolex stem cell separation technology. And this is a project that we have committed a significant amount of R&D funding to for continued development in the coming years.

We also received in the first quarter, a contract from the National Health Service, the NHS, in the United Kingdom to produce a stockpile of 2 million doses of candidate H5N1 influenza vaccine based on an avian strain. This development effort utilizes our virocell, which as you all know, offers a number of potential benefits over more traditional chicken egg based systems.

And finally in the first quarter, we announced a $60 million investment to expand production capacity at our manufacturing facilities in China to support future anticipated growth and demand for our intravenous solutions and peritoneal dialysis products. Despite our continuing improvement and overall financial performance, our longer term challenge, as you all know, is to identify ways to accelerate top-line growth. And I'm very encouraged by the momentum that's building in this regard. And I look forward to updating you on further developments next quarter.

Before turning it over to John, I find that I really want to spend a few minutes updating you on the COLLEAGUE situation. First of all, in the U.S. we continue to have a very open dialogue with the FDA regarding regulatory approval to move ahead the with COLLEAGUE remediation efforts. Last week we did receive a response to our earlier submitted 510k, which raised a number of questions to which we need provide additional information and clarification to the Agency.

And on Monday of this week, we had a constructive meeting in Washington with the Agency to discuss a number of aspects of the COLLEAGUE program going forward. With an understanding that we'll arrange a meeting as soon as possible with our respective technical representatives to address open questions regarding the 510k submission. In addition, we continue in active discussions with the U.S. Attorney's Office to resolve the issues related to the seizure action taken by the FDA this past October.

On the international front, we recently initiated COLLEAGUE remediation efforts in multiple markets including; the UK, Australia and Canada. As I think you'll recall, approximately 20% of worldwide COLLEAGUE installed base resides in markets outside of the U.S. We continue to manufacture pumps at our Singapore manufacturing facility to be used as a conversion pool to support the global remediation efforts. And have added significant service personnel, which I think I mentioned last quarter, to support this activity when we're ready to go.

Obviously, achieving alignment with the FDA on when and how to proceed in the U.S. with our COLLEAGUE remediation efforts remains the highest priority in our Company. We're committing all of the necessary resources to respond to the Agency's requirements and meet our customer's needs as quickly as possible. Of course, I'll be happy to talk about this at further length during the Q&A session. But before we do that let me turn it over to John to at this point, to discuss our Q1 financial results in more detail. John?

Thanks, Bob. Good morning, everybody. I'll start today by reviewing our first quarter financial results and then discuss our outlook for the second quarter and the full year. As Bob mentioned, our organic sales growth in the quarter of 4% exceeded our guidance, which had called for organic growth of 2$ to 3%. This growth is the result of strong sales in our bioscience business, which offset the impact of the COLLEAGUE infusion pump hold, the impact of generic competition and the exit of lower margin businesses.

Our reported sales growth of 1% was reduced by foreign currency of 3%. Geographically, U.S. and international sales both increased by 1 point. However, excluding the impact of foreign currency, our international sales were up 6% compared to last year. Organic growth of 7%, that Bob referred to, excluding the impact of the COLLEAGUE pump hold and the exit of the renal service business in Taiwan, which occurred at the end of the first quarter last year; again is the highest quarterly growth we have achieved in over three years. These two items accounted for approximately $60 million in sales in last year's first quarter.

As we turn to the business performance for the first quarter, I'll discuss sales growth on an organic basis, given that our guidance in these categories reflects growth on a constant currency basis. Sales on a constant currency basis and at actual rates by product category can be found on pages 10 and 11 of our press release. Starting with medication delivery, first quarter sales of $916 million were down 4% on an organic basis as a result of the COLLEAGUE pump hold and the impact of generic competition.

By specific product category; IV therapy sales of $304 million increased 5%. Sales growth in this market leading segment was the result of high single digit growth in our U.S. IV solutions business and a double digit increase in our global nutritional product sales. Offset by lower growth in several international markets. Drug delivery sales of about $195 million were down 3%, as expected, due to the impact of generic competition for [rocefin] and a difficult Q1 comparison as the result of last year's $10 million U.S. Government add-on order for their biodefense efforts.

Excluding these items, drug delivery sales increased 15 points for the quarter. This performance was driven by more than a 20% increase in our contract manufacturing business and strong sales of our U.S. premixed proprietary engineering drug portfolio. Our infusion system's business sales of $195 million were down 14% as a result of the hold of the COLLEAGUE pump.

COLLEAGUE sales, to remind you again, last year were approximately $40 million in the first quarter. Sales of our access systems or disposable sets, which are reported in our infusion systems product category, were up 2 points for the quarter in the United States, in line with overall market growth. So despite the COLLEAGUE hold, we have maintained a steady level of disposable sales.

And finally, anesthesia sales of $212 million were down 6% as a result of generic computation for Propofol. Propofol sales, which were were down as expected by more than 50% year-over-year, were offset by mid-teens growth of Suprane and strong sales within our U.S. multi-storage generic business, where sales increased more than 30% for the quarter given the introduction of Ceftriaxone and Sevoflurane.

So in summary, despite the challenges with the COLLEAGUE pump hold and generic competition, the underlying business in med delivery is strong. As we anniversary these issues by midyear, we expect medication delivery sales growth to accelerate in the second half of the year.

Moving to renal. Sales of nearly $500 million were up 1 point, as a 6% increase in our global PD business was offset by a 16% decline in our lower margin HD business. U.S. sales of $94 million were comparable to the prior year. And again, strong U.S. PD sales, which were also up 6%, were offset by lower HD sales. International sales increased by 1 point, as patient gains in Latin America and Asia contributed to strong international PD sales growth of 6%. While HD sales declined 16%, driven by the exit of our renal service business in Taiwan.

So in summary, our primary focus in renal continues to be on strengthening our global, market leading position in PD, to partnering with governments around the world to establish PD as a first line of therapy for patients with end-stage renal business disease. We continue to make very strong progress and expect renal to deliver solid growth throughout 2006, with continued stronger growth for PD offset by declining HD sales throughout the year.

In bioscience, we started the year with a very strong performance in the first quarter, with sales totaling $1 billion, up 15% over last year. This represents the highest quarterly sales growth for bioscience in more than three years and a record quarterly sales level. Our recombinant sales of $374 million increased 14% in the quarter, driven by continued conversion to ADVATE. Where we saw sales of approximately $170 million, compared to $120 million last year.

As we turn to the plasma business, let me point out that we have made several changes related to our sales reporting. Going forward, we will be separately reporting sales related to our biosurguery, which includes products such as Tisseel, Coseal and Floseal. In addition to achieving a more relevant year-over-year comparison for our plasma proteins business, we have reclassified the 2005 contract manufacturing revenue related to the American Red Cross to the other product category on our product detail schedules. Historical sales adjusted for these items have been posted to our Website for your reference.

In terms of the quarter, plasma protein sales of $192 million increased 15% compared to last year. This growth is driven by the increased volume associated with the American Red Cross agreement and improved pricing across the plasma portfolio. Antibody therapy sales of $183 million, more than doubled year-over-year. This increase is also attributed to the incremental volume related to the American Red Cross agreement, improved pricing and the continued conversion to liquid IVIG.

Biosurgery sales reached a record $69 million and were up 8% in the quarter. As we move through 2006, we expect to see sales growth in biosurgery in the mid. to high teens as a result of several new product introductions. So in summary, bioscience is off to a great start. ADVATE sales continue to go well. And plasma market dynamics have been consistently improving, allowing for improved performance in many of our specialty therapeutics. As a result, we believe this business is very well positioned to deliver strong results throughout the year.

Turning to margins. Our gross margin in the quarter of 43.7% improved by 3 points compared last year and in line with our expectations. Driven by higher margins in bioscience, largely the result of a ADVATE conversion, improved IVIG pricing and improved mix. We also had lower costs from our cash flow hedges compared to last year, which favorably impacted gross margins by about 0.5 point. This margin improvement was somewhat offset by higher pension and other benefit costs and approximately $20 million related to costs for additional COLLEAGUE related expenses. Specifically, these COLLEAGUE costs relate to certain customer commitments we have made to our COLLEAGUE customer case.

Overall, we are very pleased with our gross margin progression. As this is the fifth consecutive quarter, as Bob mentioned, that we have achieved a year-over-year improvement. And this improvement reflects our continued confidence and commitment to drive margin expansion over the longer term. SG&A was $526 million for the quarter, up about 9%. Approximately 1/3 of the growth is related to the expensing of stock options under FAS 123(R). The remainder of the growth is primarily related to increased spending in bioscience for new marketing programs and product launches, along with higher benefit costs across the Company.

R&D spending was $138 million, up 4% and represented 5.7% of sales. The highest percentage since the first quarter of 2004. Bob mentioned several of our first quarter R&D achievements. And for the remainder of 2006, we expect R&D spending to increase at a faster rate throughout the year as spending on several key initiatives such as our stem cell program and other bioscience spending accelerates.

As a result of our gross margin expansion, our operating margin of 16.1% improved 1.3 points compared to last year. Again, reflecting our continued focus on driving profitable and sustainable growth with strong operational discipline. The 16.1% margin in Q1 is after absorbing $15 million for stock option expense and $20 million for the COLLEAGUE costs I mentioned earlier. Excluding these items, our adjusted operating margin would be 17.6%, the highest first quarter margin since 2002.

As expected, interest expense totaled about $18 million, a decline of $13 million from last year as a result of lower debt outstanding. Sundry was an expense of 16 million for the quarter, compared to $24 million last year. With the change year-over-year driven by the translation impact of foreign exchange, which was $7 million lower than last year. Our tax rate for the quarter was 20.3%, consistent with our guidance of 20% to 21% for the full year. And our total diluted shares outstanding were 648 million. Up over year end due to the equity offering in February of 35 million shares in connection with our equity unit security, which was slightly offset by share repurchases during the quarter.

So to summarize, net earnings increased 26% for the quarter. With earnings per diluted share of $0.43, up 19% over last year, after $0.02 for the stock option expense. On an adjusted basis, excluding stock option expense for both years, fully diluted earnings per share this quarter of $0.45 was up 25% over last year.

Turning to cash flow, we had another strong quarter. Cash flow from operations totaled $305 million, a $33 million improvement compared the $272 million reported last year. Capital spending for the quarter was $76 million and free cash flow was about $230 million. Driving this improvement in cash flow is our continued focus on improving our working capital management. DSO of 55 days improved 4.5 days compared to last year. Driven by continued improvement primarily in our international receivable collections. In addition, we further reduced our receivable securitization program during the quarter, which had a negative impact on operating cash flow of approximately $30 million this year.

Inventory turns were flat to last year, as improved performance in renal and bioscience was offset by higher inventory and medication delivery. Largely due to the COLLEAGUE hold and investments to support the launch of Sevoflurane. We've continued to be encouraged by the reductions in our plasma business where inventory is down a further $110 million compared to the first quarter last year. Net debt was reduced by approximately $2 billion compared to this time last year. And we ended the quarter with a reported net debt-to-cap ratio of 21%.

Significant capital market activities during the quarter included the following. As I mentioned previously, we issued 35 million shares in February for approximately $1.25 billion in cash in conjunction with our equity unit security. We also paid off more than $900 million in gross debt, including the $800 million Euro bond that matured in March. And as you know, we announced we $1.5 billion share repurchase program. And during the quarter we bought back approximately $171 million of stock. So, off to a great start in 2006 with respect to our cash flow objectives for the year. And we remain confident that our improved capital allocation disciplines will continue to drive sustainable improvements in our cash flows and returns on invested capital.

Finally, let me conclude my comments this morning by providing our outlook for the full year and for the second quarter. First, for the full year, we continue to expect organic sales growth of 4% to 5%. This is before the impact of currency, which at current rates, we expect to negatively impact sales for the year by approximately 1 to 2 points. As was the case in the first quarter, this impact will primarily affect the first half of the year.

Sales growth guidance includes no COLLEAGUE sales in 2006, and also reflects our efforts to exit lower margin businesses. These items collectively have an negative impact on 2006 sales growth of approximately $200 million for the full year, or 3 points of growth. As you saw in the press release this morning, given our strong first quarter results we have narrowed our earnings guidance for the full year. We now expect earnings per diluted share from continuing operations to be between $2.10 and $2.16 on a diluted basis before special items and before the impact of stock option expenses related to FAS 123(R), which we expect will be between $0.08 and $0.10 for the full year.

Our previous full year guidance was $2.08 to $2.16, also excluding stock option expense and before special items. Even though we exceeded our first quarter EPS guidance by $0.02 and the underlying fundamentals of the business remain strong; we are maintaining our guidance but narrowing the range toward the upper end of our previous earnings guidance range. As the Colleague situation in the United States is further clarified, we will revise our guidance as appropriate. Consistent with our previous guidance, we continue to expect to generate cash flow from continuing operations of approximately $1.9 billion. With free cash flow of approximately 1.4 billion after expected capital expenditures of approximately $550 million.

Organic sales guidance by business for bioscience. We continue to expect organic sales growth of between 10% and 12%, down slightly from our first quarter growth of 15% due to the anniversary of the American Red Cross agreement in July of this year. This growth is the result of continued penetration of ADVATE, where we continue to expect full year sales of approximately $900 million, the global launch of liquid IVIG and the incremental benefit of the new Red Cross agreement, particularly in the first half of the year. Offset by declining sales of transfusion therapies.

In medication delivery, we expect organic sales to be between flat and up 2%. Growth will continue to be impacted by generic competition for propofol and rocefin. And again, assumes no contribution from COLLEAGUE pump sales. These items negatively impact organic growth by approximately 5% to 6% for the year. As we previously communicated, COLLEAGUE sales in 2004 of our hardware pumps totaled approximately $170 million for the full year in '04 and approximately $85 million last year in the first half.

In renal, we expect organic sales growth to be between 1% and 3% for the full year. With mid-single digit growth in PD offset by declining lower HD sales for the year. Looking at margins, we expect gross margins and operating margins to improve sequentially throughout the year. And we expect gross margin to improve over 100 basis points, driven primarily by improved margin in bioscience, given ADVATE conversion and the introduction of liquid IVIG. As well as lower costs related to our cash flow hedges.

A significant progress we have made improving our balance sheet, earnings and cash in 2005 provides us with considerable flexibility to make select investments in marketing, particularly in bioscience and in our anesthesia and critical care business. And accelerate our investment in R&D during 2006. We continue to expect R&D to increase this year approximately 10% for the full year as a result of increased investments in our recombinant biosurgery and drug delivery business as well spending related to our stem cell clinical trial.

So overall, we expect to see our operating margins for the full year to be approximately 18.5%, reflecting a year-over-year improvement of over 100 basis points. This margin, again, is before the impact of stock option expense, which we estimate to be between $0.08 and $0.10 for the full year and this will primarily impact the SG&A line. In addition, given debt reduction in 2005 and the equity issuance in the first quarter of this year; we expect interest expense year-over-year to be reduced by approximately $50 million. And we expect our share count to average between 655 million share outstanding and 660 million shares for the full year.

So as I mentioned previously, this results in our earnings guidance for the full year of between $2.10 and $2.16 excluding stock option expense and excluding any special items. For the second quarter, we expect organic sales to grow between 2% and 3%, and based on current rates, we would expect currency to negatively impact sales for the quarter by approximately 2 points. We also expect earnings per diluted share from continuing operations to be between $0.54 and $0.56 for the quarter before special items and before stock option expense of approximately $0.03 per diluted share for the quarter. With that, operator, let's open the call up for questions.

Thank you. We will now begin the question and answer session. [OPERATOR INSTRUCTIONS] Our first question comes from Ben Andrew with William Blair.

Can you hear me?

Yes.

Go ahead Ben.

I wanted to follow up on the COLLEAGUE and maybe start with; if you can give us any details about what sort of questions or the extent of the questions you got from FDA regarding the 510-K filing?

Ben, I don't really want to get into the details. As I mentioned, there were a number of questions that they raised. As I indicated in my formal comments, both parties have agreed to get together to as soon as possible to get the respective technical groups together to address those. I think that the Agency is being very rigorous in their requirements but I would say appropriately so. We want to move ahead with this remediation as quickly as possible, but we want to do it the right way. And I think sometime times it's easy to say; "gee you've got one product, what are the fixes, what are the issues?

But it's truly quite involved and there's a lot of data. As an example, COLLEAGUE has four different hardware versions in the field. There's five different software builds that have existed and been put into place over the years and so on. In fact I think we've spent -- somebody told me the other day the equivalent to about 20 staff years of validation and verification efforts in terms of testing and so on over the last nine months. So, this is a lot of data. And the Agency has gone through that. As I said mentioned, we met Monday of this week. I think we have further insight in terms of the expectation. And we're encouraged that clearly there's a willingness on the Agency's behalf to meet with us as soon as possible.

So clearly, we still have some work to do. I think we can address the issues and questions that the Agency has raised but to get into a specific discussion this morning as to what those are and so on, it's probably not a good forum to do that. But that's probably the best sense I can give you.

So, just following up on that. Relative to the international remediation effort, you're moving forward on that. Should we read into that that you are comfortable that the technical fixes you have available will also ultimately be approvable in the United States?

Well, I don't want to speak for what's approvable in the U.S. Obviously, we wouldn't move forward with the remediation efforts outside the U.S. unless we were comfortable with, what I'll call, the fixed associated with the various field corrective actions and issues that were raised earlier in the year. In some cases we have received actual formal approval from regulatory bodies, MOH's in other countries. It's been a byproduct of presentations and discussions.

And every regulatory body around the world has different requirements, different expectations and so on. But the fact is, we clearly wouldn't move forward with the remediation outside of the U.S. unless we felt we were in very good shape relative to specific issues that had been raised earlier this year. That's a different question, I would tell you, relative to broadly validating a platform and a system. Okay? And as a result, different agencies have different expectations.

Okay. And then just briefly on the plasma protein side. We have heard a lot of talk about pricing being quite strong there and in fact the market being back into a state of shortage. What are you guys doing in terms of volumes? And do you have an ability to continue increasing the volume that you have got in addition to the pricing power that you have seen, particularly with liquid IVIG?

Well, first of all, let me comment on this notion of shortage. I'm not sure there's a shortage. I think there's a reasonable balance. Okay? And there's a necessary kind of equilibrium process you move in. So, there might be spot shortages here or there that are different than on a global basis, whether or not there's a shortage. Our view is today, there's a pretty good balance between the overall supply and demand for virtually all of the plasma proteins. What was the second part of your question? I'm sorry.

Just curious about our ability to increase volume? And obviously, you guys have a good supply of source plasma.

Well, we have some amount of latitude to increase volume with additional capacity. But the other part of that is increasing production capabilities by virtue of continued yield improvement, which is the best way to increase capacity. So, there's some amount of latitude in that regard on our behalf.

Okay. Thank you.

Yes.

Our next question comes from Larry Keusch with Goldman Sachs. Please state your question.

Hi, good morning.

Hi.

John, I was hoping that you might be able to just help shed a little light on how we should think about -- how the margins have been doing in bioscience? Obviously, that's a major driver of all of the improvements that you guys have been getting. And I was just wondering if you can sort of help us think about how those improvements have tracked over the past couple of quarters? And what sort of costs were you perhaps offsetting in the past with some of that improving profitability that now starts to go away and will continue to show further on a go-forward basis?

Well, the margins for bioscience, as I mentioned Larry, really drove the margin improvement for the Company this quarter. How they have been tracking over the past several quarters has been a continued improvement in our overall margins within bioscience. Really driven by the items that I mentioned; ADVATE conversion, liquid IVIG and the yield improvements that Bob just mentioned on the plasma business. Which allow us to supply more finished product this time of the year than we did a year ago. So, those three things are really the biggest drivers to the margin improvement in bioscience.

The other area; the growth in our specialty therapeutic business portion of our overall plasma and biosurgery business helped the yield and the cost improvements within the plasma business specifically. In terms of going forward, I don't see any huge cost overhangs that we need to deal with. I think you are familiar with the Wyeth bulk situation, which we'll work through in accordance with the contractual obligations we have.

And all of the items that I mentioned, we continue to expect to see continued growth in the margin contributions from those items, certainly throughout the rest of 2006.

Okay. Great and two other ones. Just if you can -- I'll just ask them and then you can answer. If you could just perhaps expand little bit on what was in that $20 million and then comment about those customer commitments? If you could just help me understand what exactly that is. And then, Bob, if you could -- again, just talk a little bit about your most recent thoughts about asset sales and thinking about divestitures and perhaps doing a little bit more to prune some of the slower growth businesses? Just philosophically, how you are thinking about that?

Okay. Let John address the write-off, then I'll -- or charge and then I'll comment.

Yes, I'll take the first one, Larry. I don't want to get into specific of the $20 million. We obviously inconvenienced our customers to some degree and we've made some concessions there. The largest of which is some warranty extension for the installed base of pumps. Beyond that, I'd rather not comment on anything specific but that's the lion's share of the $20 million.

Relative to the second part in terms of asset sales, as you know, Larry, over the last now almost two years, we have been pretty proactive in identifying low-performing business segments. Whether that's third party plasma sales, whether that's our renal therapy businesses such as in Taiwan last year. Things that you don't see, frankly, on a geographic basis where we have scaled back on certain businesses and geographies that just weren't making money and frankly were not going to make money.

Having said that, we continue, in answer to your question, to evaluate underperforming assets. It's one of the reasons our top line hasn't grown somewhat faster than we've reported. We've tried to maintain the discipline that this was all -- as we've continuously communicated to all of you, this is all about about value creation. And we continue to do that across the business.

Obviously, I'm not going to share anything specific at this point. But I think the disciplines that we have put into place over the last couple of years in terms of really understanding value creation associated with various businesses is a discipline that's going to continue. So that process is underway, will continue. And obviously, if there's decisions that we make, we'll communicate that.

Great. Thanks very much.

Sure.

Glenn Reicin of Morgan Stanley is on the line with a question. Please state your question.

Hi, good morning. It's Matt Miksic for Glenn.

Hi, Matt.

Thanks for taking the question. So, one question on share count. It just seemed like the number came in significantly lower than we were expecting. And I understand the new shares were issued. Was there a timing issue, or can you help us understand how -- or maybe we just had the wrong number, I don't know if you can walk us through it?

Well, the shares Matt were issued in February. So, the full impact of the 35 million share increase was not felt through the entire quarter.

Okay.

That's the reason why you didn't see the full 35 million increase.

So was it late February or --?

I forget the exact date.

It was mid-February, Matt. February 16, I think it was Matt.

Basically, a half a quarter impact Matt.

Okay. That would account for some of it, plus the -- what about 5 million shares in the buyback?

Yes, just under that.

Okay. And then we're curious about some of the work that you had been doing about expanding indications for IVIG. There has been some talk for the past six months or a year about Alzheimer's and some other indications. Can you give us an update on that?

We continue to be involved in that Matt. We -- there was some work that was published last year out of Cornell in New York, as you know, that generated on a very preliminary basis, some encouraging results. And we continue to support work and activity in that regard. So, it's still very early and obviously the prospects of this are exciting. But I think we need to be cautious and balanced relative to creating expectations at this point.

Okay. And then just one last follow-up if I may.

Yes.

On CapEx, it seemed to up a little more than we were expecting also. Any granularity on that?

Nothing individually significant, Matt. It's in line with the guidance that we have got out there for the full year of 550. It was up over last year by $10 or $12 million, I think. But no, there's nothing significant. Obviously, you saw though announcement of the $60 million investment we have committed to make in China. That hasn't started yet. But I'm very comfortable with the guidance we have got out for this year and in the longer range guidance that we put out there for the next several years as well.

Is there any -- do you see any increased trend throughout the year? Should we look for more first half? More second half?

Probably a little more even. One thing we have been trying to do over the past couple of years is take the seasonality, not only out of some of our cash flow but, out of some of our businesses as well. So, I think you're seeing a little bit of that here in the first quarter. So, we don't end the year with a big hockey stick either in terms of cash flow or earnings growth. And I think -- I would expect a more steady progression this year than you've probably seen in previous years.

Great. Well, put us down as glad to see that change. Thanks for taking the questions.

Okay. Thanks.

Thank you.

Mike Weinstein of J.P. Morgan is on the line with a question. Please state your question.

Good morning, guys congratulations on the quarter.

Hi, Mike.

Good morning. Could you start a little by talking a little bit about the Sevo launch. Our - you're just kind of getting it going in the U.S. Can you give us a little light on your strategy both outside the U.S. and now in the U.S.?

Mike, not a lot more light than I think what we addressed in our formal comments. Obviously, we just recently launched in the U.S. It's very early, so it would be premature to identify at this stage potential for the product this year in the U.S. and so on. And at this stage, we haven't gotten into specific discussions in terms of sales on Sevo. Nor are we going to do that until we get a little bit more traction. So obviously, the plan is to launch the product in additional markets throughout. But as indicated, we're in two of the biggest markets -- the two biggest markets actually in the world in both Japan and the U.S. We're pleased with the approval in the launch in the UK. And we wull communicate as we launch in additional markets as the year progresses .

How should bethink about the pricing cycle in plasma proteins? We have gone through this period now over the last few quarters where pricing has obviously strengthened in IVIG. And you have launched your liquid product. Do we think we're still relatively early in the cycle? Is this going to be less cyclical because of the supply that was taken out the last couple of years? How should we think about that?

I would say the following. One, I think, yes, I think we're fairly early in the cycle, one. Two, all signs are that there is stability in the market. My comment earlier, I think to Ben's question, on the balance between supply and demand on plasma proteins. And obviously, we continue to identify, what I'll call, specialty opportunities that exist within the segment to continue to provide on a long-term basis stability. A good example of that would be the launch of albumin in our flex container. Clearly, our plans are to convert as much albumin to flex container so it becomes the standard in the marketplace. Those kinds of things will also interject long term stability, I think, in the market. So, those would be my thoughts.

Helpful. Last question for John. Just want to understand your commentary relative to the back half of the year. In the first quarter, if we backed out the impact from COLLEAGUE and looked at organic growth. As you said, it was 7%. As we go into the back half of the year, you'll anniversary the generic launch of propofol, as well as rocefin. And we'll see what happens COLLEAGUE. But even absent COLLEAGUE, you should be at least at that 7% level, if not better, as we look at organic growth right?

I think -- our guidance, Mike, is 4.5, obviously. The other big item that also anniversaries out midyear, which is a negative on our second half of the year growth rate, is the Red Cross agreement. Which is actually bigger than the other items.

Sure.

So, there's a number of moving pieces there. You have identified the three, between propofol, rocefin and COLLEAGUE. The Red Cross is the other biggy. So, 4 to 5 for the year we still feel comfortable with.

Mike, let me just follow up on John's comment in terms of the running rate because I think it's important that everybody understand the impact on a going forward basis relative to COLLEAGUE sales. Obviously, COLLEAGUE sales come in two forms; billing of new pumps that you put in the marketplace and then what I'll call the razor blades or the sets that are in the installed base that are used with the -- again the installed base of pumps that are out there. Obviously, we have one more quarter of tough comparisons on the sale of device piece in the U.S. and then that's behind us.

In fact, if you look at sales of COLLEAGUE systems in the U.S. it's roughly $150 million on sales of placement or sales of new pumps. And the disposables that are associated with that are roughly, coincidentally, about $150 million as well. So, you all look at the sales details that we provide and you see this category called infusion systems, which currently is at a running rate in the U.S. of about $500 million. Going forward it's -- about 150 million of that 500 million would be associated with sets that are used specifically with COLLEAGUE.

So, I think that's an important financial context for everyone to understand. We have roughly today about 340,000 channels of COLLEAGUE that are in the installed base, again in the U.S. And to date, I think we have lost accounts as a result of the COLLEAGUE situation of about 7,500 channels, so roughly 2%. So, you can kind of extrapolate the 2% by the $150 million to get a sense of what the erosion of that installed disposable base would be going forward. Next question?

Katherine Martinelli of Merrill Lynch is on the line. Please state your question.

Thank you. I just wanted to follow up regarding the customer commitments in terms of the gross margin. John, should we expect something similar on a quarterly basis for the remainder of the year or was that more of a one-time type event? I know you didn't want to -- or you mentioned it was mostly warranties, is that kind of a one-time in Q1 and you wouldn't see that continue?

Yes, it was a one time event, as of what we know today Katherine. My comment about evaluating guidance for the rest of the year, obviously, we want to see how all of the discussions around COLLEAGUE play out. But as of this point in time, we do not have any expectations or estimates of anything else to come for the rest of the year.

Great. Thank you. And then just a second question and I apologize if this is fairly obvious. But you mentioned that you are building up the pumps in anticipation of the remediation approval. Just trying to understand if you don't yet know the sign-off or if the FDA would require any changes, how you can build up the inventory?

Well, we obviously wouldn't be building the inventory, Katherine, if we didn't feel at some point we're going to be in a position to need those. If you look at the logistical aspects of moving forward with the remediation on over 0.25 million in pumps on our installed base on a worldwide basis; the number of pumps we have build to date, which I think is roughly about 20,000. That puts that in a perspective. So obviously, we need a conversion pool. We wouldn't be building the conversion pool if we didn't think we needed it. But there's a lot of pumps that will be coming back and converted out and so on. So, we think it's the smart thing to do at this stage.

Thanks. Rick Wise of Bear Stearns is on the line with a question. Please state your question.

I might as well ask another COLLEAGUE question. Bob, you were kind enough to talk about the erosion and actually in effect remark about how stable the business has been. How long before hospitals have to consider other options? Do you have another year or two? Again, I know you hope and I would expect you get these things resolved more quickly but when does it become problematic?

Well first of all, Rick, I think it's difficult to generalize for the installed base to say six months to a year. Obviously, there are some accounts, the 7,500 channels that I cited in my response to Mike's question, which have already converted. And there are hospitals out there that are thinking about converting right now. Okay? It's why I felt it appropriate to put this in a financial context, so you understand if they convert what the exposure is. The absolute amount of exposure is $150 million of the disposable sales associated with installed base in terms of ongoing sales.

We talk about this being our highest priority and it is our highest priority. Candidly, it's not our highest priority because of the financial impact on our Company. It's our highest priority because of the impact this has had on our customers. And it's why I felt that I wanted to clarify for everybody. Because people look at the $0.5 billion running rate in infusion systems and think all that's COLLEAGUE. There's a lot of stuff in there that's not COLLEAGUE, just as standard gravity sets, which require no pumps at all. And extension sets, and secondary piggyback sets, and sets that are associated with other systems like FlowGuard and so on.

So, we're talking about an installed base of disposables that's $150 million in the U.S. I don't mean to minimize that, but in the content of the Company, it's less of an issue financially than it is an issue in addressing the situation with our customers that frankly we have created over the years. And that's why it's though highest priority of the Company. It's likely we'll continue to get leakage on that $150 million of installed disposable sales over time. It's going to happen, I think on a -- I don't want to say a linear basis, but it's going to evolve. So it's not like; you hold the dam up for six more months and then the dam breaks. That's not the nature of it.

We profile all of our accounts. I think we have a good understanding of the vulnerabilities that exist. And until we move forward with the remediation, we can expect there will be continued leakage. Nine months into it, I think it's remarkable, frankly, that 2% of our installed base of channels has eroded. And I think it speaks to -- in some ways, first of all, most of our customers really like the product. And it speaks to, I think, their confidence in our ability to address this. So, I'll stop there but that's as complete an answer as I can give you.

That's very helpful.

Yes.

Just two final big picture questions, Bob. Clearly, free cash flow is excellent. You have made tremendous progress with the balance sheet. Two questions. One, given the 1.4 billion in free cash flow, can you give us your latest thoughts on how you are likely to use that over the next year or two? More share repurchases, now should we assume more aggressive with acquisitions or portfolio fill-ins? And maybe as well touch on -- are there significant remaining cost reduction opportunities that could leverage the PL? Thanks a lot.

Rick, this is John. The short answer to your question was; yes, in terms of share repurchases. Obviously we announced 1.5 billion this year and we expect to use a large portion of our free cash flow towards that in the near term. Will there be bolt-on acquisitions? I think there will be, if you look out over the next several years. So, we certainly, as we've talked previously, expect now that we have got the team in place and the operation execution in place, delivering on our commitments; we feel more comfortable that we'll be in a better position to do that going forward.

In terms of major cost reductions, I think we mentioned the last couple of quarters, probably the biggest area -- again, if I look out over the next several years is evaluating the overall manufacturing footprint that we have. And there will likely be some changes there. We don't have anything teed up in the immediate term. But making that footprint as efficient as possible will probably require some investment over the next several years as well.

But I would just add on to that, Rick. I would emphasize, I think there continue to be significant cost reduction opportunities throughout the Company going forward for the next number of years. This isn't a matter of focusing on that, driving the margins up and then get in the area of diminishing returns. I think in a Company of this size and diversity, there will continue to be significant opportunities for ongoing cost reductions in all areas of our business.

Thanks, gentlemen.

Operator we have time for two more questions.

Okay. Glenn Novarro of Bank of America is on the line with a question. Please state your question.

Thanks. A question for Bob. On the call you talked about looking at ways to accelerate organic growth. And I have got to believe that the generic injectable business is one source of that. Obviously, you're launching generic Sevo. Last month, you announced launching of a generic Pfizer's Zithromax. So, I'm wondering, can you talk a little bit about the number of products in your injectable pipeline today for this year, for next year? And then maybe also comment about the opportunity for generic biologics? Just yesterday we got approval of one in Europe. What is your capability? And I'm wondering if this may also be a source of an acquisition target down the road?

Glenn, you asked several questions. I can't give you a specific number in terms of new multisource generics teed up in the coming six months, 12 moths. There's a number of them. That's something that Mary Kay could provide, I'm sure. Suffice it to say there's some really interesting opportunities that continue, as evidenced by the Ceftriaxone launch, the collaboration with Pfizer on Azithromycin. And then of course, this issue you raised on generic biologics, we're watching the same things you are watching very closely to understand what opportunities, if any, exist there. On a high level, I doubt that there's any company that's better positioned to the degree there is an opportunity than Baxter in this regard. In that we near the multisource generic business. There's a certain mentality and orientation that's associated with that, that's part of our anesthesia, critical care business in med deliver. But of course, because of our bioscience capabilities, we also have technical knowledge and the like in the whole biologics area. So, the confluence of those two core competencies within the Company, I think position Baxter as well as anyone.

Now, having said that, and you've watched this a long time; there's still a lot of ambiguity despite some evolving definition, I think. A lot of ambiguity relative to the regulatory pathways. And suffice it to say, we watch that very closely. Back to your opening comment about just organic growth and we we're kind of talking about net delivery here. In addition the multisource generics, of course, we commented and we launched the AVIVA line of non-PVC containers. We've got a couple of packaging and -- several packaging innovations; our multisource nutritional and our triple-chamber bag, which have been very successful outside the U.S. We'll be launching that in the U.S. in the next couple of years. The clear shot syringe, solo mix. This Hylenex technology, which could be very exciting, to perhaps revolutionize how injectable drugs are administered. The Sevo launches, as you mentioned. And then some of our formulation capabilities, Promaxx, Nanoedge and so. So, despite the short term challenges in med delivery with COLLEAGUE and then the annualized effect of propofol erosion and rocefin erosion from last year, we actually have a very exciting portfolio of products that can drive organic growth in med delivery.

I just had one quick follow-up. One of your competitors in the injectable generic space, talked about this year launching over 10 new products. Are you going to come close to that? I don't know you want to give specific number but --?

The answer is yes. There's no secrets in the business. Everybody tracks the products that are coming off patent. Everybody sources the bulk active material. It is about having as broad a product line as you can have, certainly in the U.S. market and getting into the market first. And ideally, getting to the market first in an innovative packaging system. So, the play in the playbook of the competitor that I think you are referring to is no different than the play in our playbook. And my guess is the targets line up all the same. I don't want to get into reconciling their number, our number and so on. But I'd be surprised if there's things in their list that we've just missed. Or vice versa.

Okay. Great. Thanks, Bob. That's helpful.

Last question?

Ken Weakley of UBS is on the line with a question. Please state your question sir.

Thanks, good morning everyone.

Hi, Ken.

I was wondering, you mentioned value creation earlier, and I think one of the best metrics of that is return on invested capital. And I know yours is going up steadily. Can you maybe tell us where it was in the quarter? And how -- as importantly, I think, is invested capital turns. Because I think most of the companies have seen margin expansion but invested capital returns have really been the metrics by which value is really created. So, maybe walk us through asset efficiency, if you can?

Ken, I think there's a return on invested capital definition for every analyst that's on the street.

Right.

So, rather than quote a specific number I'll just tell you couple of things. Obviously, the improvement in our operating cash flow is driving improved return on invested capital measurements. However you cut it. And that's really what we have been focused on. Our executive and management incentive programs are largely driven by ROIC measurements. And the way we're looking at that, at least in the near term last year and this year, is using operating cash flow as the key driver of that metric. So, it has continued to improve on a quarterly basis certainly throughout '05. And again, if you look at any of the individual metrics DSO, inventory turns but for the COLLEAGUE investment, and other working capital improvements, that metric as we look at it and I think as anybody looks at it with a different definition has continued to improve. And it's one, again, that we're highly focused on with the management teams across the Company.

And just one more if I could for Bob. As you know there's been a lot of discussion in the last couple of weeks about how the changing fortunes in the hospital industry, should they get the big DRG cuts that have been proposed, how that could effect their purchasing decisions and buying and pricing. And although it's not a as big of issue for you as it could be for others, can you maybe give us experience, maybe how the BBA affected hospital relationships or pricing decisions or anything like that? Give us some context for how hospital economics affect pricing across the medical device industry.

I don't have the corner of the market or perspectives on that, Ken. I'll give you my views. First of all, if you look what Baxter sells in the hospitals, IV solutions and so on, these are products that are very very competitively priced, as you know.

Yes.

Now, you reflect back to the last wave of fundamental and environmental change, which is DRG's in the early to mid-1980's. It affected -- it did affect at that time consumption or utilization of IV's, it effected things like like set changes. Back in those years everybody was changing IV sets every 24 hours. The CDC looked at the epidemiology and the infection data and so on and over time it went from 24 to 48 to 72 hours. Also, the drive from in-patient to outpatient, that you look at what is happening in the hospitals in the United States; I sit on the Board of a hospital here in Chicago area. That has run it's course pretty well too.

So, I don't in any way want to minimize the potential cost containment affect that these dynamics that you described would have. But I actually feel pretty secure given the portfolio of the products that we have, where they are use inside the hospital, how they are priced today, and frankly, the competitive set that exists in the U.S. market. And I don't really see it as an "A" item right now for our Company.

Thanks so much.

Ladies and gentlemen, this concludes today's conference call with Baxter International. Thank you for participating.