Becton Dickinson and Co (BDX) 2005 Q2 法說會逐字稿

Hello and welcome to BD's second fiscal quarter 2005 earnings release conference call. At the request of BD, today's call is being recorded. I would like to inform all parties that your lines have been placed in a listen-only mode until the question-and--answer segment. [ OPERATOR INSTRUCTIONS ] Beginning today's meeting is Ms. Patricia Spinella, Director of Investor Relations. Ms. Spinella, you may begin.

Thank you, Tamara. Good morning everyone and thank you for joining to us review our second fiscal quarter results. Today's call is being simultaneously webcast and will be available for play back through Wednesday, May 4, on the investors page of the BD.com Web site or by phone, at 1-888-434-5261 for domestic calls, and 1-203-369-1004 for international calls. During today's call, we will discuss some non-GAAP financial measures with respect to our performance. The reconciliation of these non-GAAP to GAAP measures can be found in our second quarter press release and the related financial tables. A copy of the release and the financial tables is posted on the investors page of the BD.com website.

We will also make some forward-looking statements, and it's possible that actual results could differ from our expectations. Factors that could cause such differences appear in the second quarter press release and in the MD&A section of our recent SEC filings. Leading the call this morning is John Considine, BD's Executive Vice President and Chief Financial Officer. Also joining us today are Gary Cohen, President of BD Medical, Bill Kozy, President of BD Diagnostics, and Vince Forlenza, President of BD Biosciences. I will now turn the call over to John.

Thanks, Pat, and good morning, everyone. I assume you all have our earnings release and the attachments that we sent out this morning and have had an opportunity to review them. As usual, we would like to devote as much time as possible to answering your questions during the call. Therefore, my opening comments will be brief. There are three primary topics I would like to address. First, we want to review the analyses contained in the release of our reported diluted earnings per share from continuing operations to diluted earnings per share from continuing operations, excluding specified items for the second quarter and six-months period of fiscal 2005 and 2004. Second, we would like to describe some of the key drivers of our second quarter 2005 revenue and EPS growth. And, third, review the guidance for the third quarter and fourth quarter full fiscal year 2005 that we have provided in the release.

Beginning with our earnings, I suggest that you turn to the first table we included in the press release that appears under the heading analyses of second quarter and six-month period of fiscal 2005 and 2004 earnings. As we have said previously, this table is provided to assist you in comparing our current quarter and six-month diluted earnings per share from continuing operations, after excluding certain specified items which we believe are somewhat unique to the period, to comparably adjusted results for the prior year's quarter and first half results.

For the second quarter of 2005 we begin with reported diluted earnings per share from continuing operations of $.71 and add back the $.05 relating to share based compensation. You will recall from our first quarter conference call that in the first quarter we adopted FASB-123, as revised, which requires the expensing of stock options in addition to all equity based compensation. We have therefore isolated this expense for comparative purposes given that stock options were not expensed in 2004. For modeling purposes, the second quarter expense by line items approximates what we believe the third and fourth quarter projected amounts to be.

For the second fiscal quarter of 2004, there are no specified items that impact comparability. Therefore as you can see on the -- on a comparative basis, our second quarter diluted earnings per share from continuing operations, excluding the specified item, are $.75 versus $.62 in the prior year’s period.

Moving to our six-month results for fiscal 2005, we begin with reported diluted EPS from continuing operations of $1.45. You may remember from our January conference call, that in the first quarter we subtracted $.04 of EPS that was recorded due to the reversal of tax reserves that were no longer required, due to the favorable conclusion of certain international tax examinations. We also subtracted $.02 in the first quarter relating to certain discrete tax events that caused the quarter’s tax rate to vary from the expected effective tax rate for the year of about 25.5%.

The last adjustment we have included is to add back $.08 of share based compensation expense, $.03 from the first quarter and $.05 from the second. Again, this is being isolated since there is no comparable expense recorded in the 2004 results. This gives us diluted EPS from continuing operations, excluded excluding specific items for the six-month period of 2005 of $1.46.

For the six-month period of fiscal 2004 we again begin with reported diluted EPS from continuing operations of $1.10. There is only one specified item, namely the $.11 per diluted share recorded in connection with the voluntary recall and write-off of blood glucose strip inventory and other actions taken with respect to our blood glucose monitoring products last year. As a result, our comparative diluted earnings per share from continuing operations, excluding that specified item for the first six months of 2004, are $1.20.

Moving to the second topic, that is what drove our revenue and earnings per share growth, I'll begin with revenue growth of 9% for the quarter which included an estimated 3% benefit from foreign currency translation, in particular due to the strong euro.

Looking at our medical segment, we grew about 7% driven in part by strong international sales of prefilled products and strong sales in diabetes care. Sales of our BGM products totaled 17 million for the quarter which is consistent with our guidance. We continue to expect full year BGM sales of about 75 million for fiscal 2005.

U.S. Sales of safety engineer products grew at 5% which is noticeably lower than we have seen in sometime. It is our belief that this was, for the most part, the result of an inventory reduction program initiated by a major U.S. distributor.

BD Diagnostics grew at about 12% driven by a strong 20% increase in diagnostic systems unit of the segment which experienced exceptionally strong flu diagnostic test sales in Japan. The pre-analytical systems of the segment had growth of about 5%. As with the medical U.S. sales of safety engineered products grew at about 5%, again, lower than we have recently seen and due primarily to the same major U.S. distributor's inventory reduction program.

Coming back to safety sales, the combined medical and diagnostic U.S. safety sales grew about 8% for the first half of the year. We expect combined medical and diagnostic safety sales growth of about 9 to 10% for the year. With respect to the international safety sales, medical grew about 22% to 21 million while diagnostics grew about 38% to 47 million in the second quarter. Combined medical and diagnostics international safety sales grew about 36% to 129 million for the first half with about 7 to 8% of that increase relating to the strong euro.

In the BD Biosciences segment, worldwide revenues from continuing operations grew at 8%. Instrument growth continues to be the primary growth contributor driven by sales of the BD FACS Canto and the BD LSR II flow cytometers. Also contributing to this growth were increased sales in the Discovery Labware unit.

In terms of our quarterly fiscal 2005 earnings, the numbers I am going to reference have been adjusted to exclude the impact of share based compensation expense. Beginning with gross profit, overall growth, and consolidated revenues, favorable product mix, and continued operational effectiveness delivered a 70 basis point improvement with adjusted gross profit increasing to 50.5% for the quarter. SSG&A expense, as a percent of sales, improved over last year by about 80 basis points for the quarter. And R&D spending increased about 7% in absolute terms over last year. This reflects 10% growth in new programs, which is consistent with our plans to accelerate R&D spending, offset in part by lower spending from molecular oncology diagnostics related to the completion of our cancer bio-marker discovery program in the fiscal third quarter of 2004. We expect the third and fourth quarters to have double-digit spending increases over last year and expect our full year growth to be about 12%. All of this led to strong cash flow for the first six months of about 450 million from operations, of which approximately 225 million was used to repurchase about 3.9 million shares of common stock, and 108 million for capital expenditures. By the way, cash flow from operations results includes pension funding of about 100 million in the first six months of 2005. We are right on track to our full year expectation generating in excess of a $1.1 billion net cash from operations, again that also includes pension contributions.

In relation to our prior guidance for the second quarter, our adjusted diluted earnings per share from continuing operations, excluding the specified items of $.75, was about $.03 higher than our guidance. Favorable foreign exchange contributed about a penny of that and $.02 was attributable to the stronger than expected flu product sales in Japan.

A third and final topic we would like to cover is our guidance for the third and fourth quarters and full fiscal year 2005. Once again, I would suggest you now turn to the second table we included in the press release which is near the end and immediately precedes the conference call information paragraph.

Starting with our third quarter outlook, we have adjusted diluted earnings per share from continuing operations to exclude an anticipated $.05 from expensing all share based compensation and $.02 from the timing of certain items that caused the third quarter's tax rate to be higher than the expected effective tax rate for the year of 25.5%.

Our third quarter 2004 results have been adjusted to eliminate the $.24 impact relating to the settlement of the RTI litigation. Therefore, our comparable adjusted diluted earnings per share from continuing operations are expected to increase 11 to 14% from an adjusted third quarter base of $.66.

Revenue growth for the third quarter is expected to be about 8 to 9% with revenue growth for BD Medical between 8 and 9, BD Diagnostics about 7%, and BD Biosciences being 10 to 11%. These revenue estimates include the positive impact of foreign exchange that we have seen through April.

Looking to the fourth quarter and full year, I've already described all of the named specified items will you note in the table. Starting with the third quarter outlook, we have adjusted diluted earnings per share from continuing operations to exclude an anticipated $.05 from expensing the share based compensation and $.02 from the timing of certain items that caused the third quarter’s tax rate to be higher than expected for the year, which is going to be 25.5%. Our third-- I don't know if you noticed, but I just reread the same paragraph, I apologize.

Let me go to the fourth quarter. I have already described all of the named specified items will you note in the table. For the quarter, diluted earnings per share from continuing operations are expected to increase 6 to 9% range from last year's reported earnings per share from continuing operations of $.70. Revenue growth for the company is expected to be about 8% with revenue growth for BD Medical being between 6 and 7%, BD Diagnostics about 8%, BD Biosciences about 10 to 11.

Let me go to the full year now. Diluted earnings per share from continuing operations, adjusted for special items, are expected to increase in a 14 to 16% range from last year's adjusted base of $2.56. Full year revenue growth for the company is expected to be about 8% with revenue growth for BD Medical being at 7 to 8. BD Diagnostics being in the same range, 7 to 8, and BD Biosciences being about 10. Again, this projection includes the benefit from foreign exchange that we've seen through April.

As previously mentioned we will look for U.S. safety sales to increase between 9 and 10% over 2004. We anticipate growth of international safeties will now be in the range of about 25 to 30% or about 255 to 265 million. This is above our prior guidance, which is at the high end of the 15 to 25%, 15 to 20% range. We now expect gross profit margin of about 50.7%, adjusted for specified items, which is an improvement of about 50 basis points. On a reported basis, the gross profit margin is expected to be about 50.5%. Adjusted SSG&A, as a percentage of revenues, is expected to improve by 75 to 100 basis points.

On a reported basis, SSG&A, which includes the equity based compensation expense in 2005, is expected to be about flat with 2004. Again excluding the $.04 benefit from reversing tax reserves in the first quarter and our share based compensation expense, our effective tax rate is projected to be about 25.5%. On a reported basis, the effective tax rate should be about 24%. Our tax guidance does not include the impact of taxes that would result if we were to repatriate certain undistributed earnings of foreign subsidiaries, under the American Jobs Creation Act of 2004, which we continue to review but fully expect to do either at the end of this year or early into next year. Our capital expenditures are expected to be in the 300 to 325 million range and we expect to continue share repurchases and spend about 400 to 450 million for the entire year.

So, in summary we had another solid quarter and are raising our guidance for the full year diluted earnings per share from continuing operations, excluding the named specified items, to the 14 to 16% range as previously discussed. With that we can begin the Q&A. As usual, in order to allow for broad participation, we would appreciate it if you would limit your questions to one plus a follow up. Thank you, operator. We will open the call for questions.

Thank you, sir. [ OPERATOR INSTRUCTIONS ]. Our first question comes from Timothy Lee with Merrill Lynch. Sir, you may ask your question.

Good morning. Just a question on the safety products. First in terms of the inventory destocking by the distributor, when has that been completed? Do we see an impact lingering into the third quarter and can you quantify what kind of dollar impact that had here in Q2?

Let me take that. We are not sure, only they would be sure if they are completely done. We think, by and large, it is but the third quarter will prove that. If you looked at it, our reported medical segment growth, if that hadn't occurred, would probably increase by about a percent this quarter, would have increased by about a percent this quarter overall.

Okay.

Just the medical segment. Not just -- just from that. That's, what that would do the whole thing. The safety resides in med surge, if you looked at med surge, which was about 3.7%, it probably would have been up 2 or 3% from there. If you looked at diagnostics in PAS alone, in that sub segment, which was negative 2.2% that would have been up another 4, 5% probably because of that destocking. And if you looked at the whole segment, which was at .8%, that would have been up by 2 or 3% due to that destocking. So, if that helps you, overall you would have seen that safety growth overall from 4.9% probably would have been up 3 or 4% over that.

Great. Thank you. If I could follow up going to the international segment, what's really changed here in terms of your or your higher outlook for the balance of the year for international safety, have some new countries really adopted this technology or just had some granularity behind that improved outlook?

Why don't I let Gary and if Bill Kozy want to chime in and talk about that.

This is Gary. This has been an ongoing effort to help develop the non-U.S., the international markets for safety. And we've had advocacy efforts going on for several years. There's been some progress on legislative and regulatory activity in some countries, Canada in particular. And Canada had pretty strong growth in the quarter and safety sales.

In Europe, the progress has also been happening, not to the same extent that we had resulted in very clear legislation has occurred in the U.S., but a number of the countries in Europe have been building momentum around advocacy, and in some cases, policy activity. For example, in Spain now use of safety devices in pilot facilities is being funded by the government. So we are seeing growth in Europe as well as a result of several years of effort in market development, and we are seeing some growth in Japan, also, which is a sophisticated healthcare market that seems to be moving in that direction as well. So I think what we are seeing is the positive outgrowth of several years of work, which is in part, manifesting itself in some government activity, though not to the same degree of definition as to what happened in the U.S. Canada would be the next country that's moving in that direction. Four provinces have put in safety requirements for use of safety devices.

Great, thank you.

Our next question comes from --

Operator, we had a little follow up on that question on the diagnostics side of our business. So, Bill, you want to?

To add quickly three factors. One is the accelerating conversion to plastic evacuated tubes in international portions of our business. As Gary mentioned, continued penetration in Canada, particularly with our Safety-Lok platform, and growing interest in Europe around Safety-Lok and the primary blood collection safety product Eclipse.

Thank you. Next question.

Our next question comes from Rick Wise with Bear Stearns. Sir, you may ask your question.

Good morning everybody. Maybe touch on diabetes a little bit? It seems like it was sort of a solid uneventful quarter for diabetes and you'd be comfortable with your $75 million target still. Can you update us on a couple of things and maybe give us some color on what's working well this quarter? Maybe Medtronic relationship, the alternate site testing, the sales force ramp, and maybe touch on spending levels or investment spending and what we should think about that, John?

Okay. Well, why doesn't Gary take you through the meat of that question and then we will talk to you a little bit about the numbers.

Okay, so I will take the first part. I think you can think about three general components of growth or sales drivers in blood glucose. One, is the direct-to-consumer marketing effort which would also include the work we are doing at the clinical level to build primary demand which would be manifested through retail pharmacies. The second would be the relationship with Medtronic, particularly around the Paradigm system, which will generate revenues again through retail and also direct to Medtronic. And the third would be the DME segment.

Over the last several quarters, and we think the trend going forward will be further strength in the direct to consumer marketing effort and continued strength with Medtronic and somewhat of a declining impact on a relative basis, although it was still growing, with the DME segment, which is the least profitable of the three by the way. We've been investing more heavily in the direct-to-consumer and direct selling effort since the start of this fiscal year. We believe we are seeing a positive return from that investment because the rate of growth of those sales is accelerating. And, again, it's taking a bigger proportion of the overall sales relative to DME.

Also, we are anticipating that the Medtronic sales will grow at a faster rate, in part, because we are getting good success now in Canada, which we launched together with Medtronic, the Paradigm system earlier in the year. I should also note that this quarter we are launching BGM in Europe for the first time, BD BGM in Germany. So that should help contribute to sales going forward as well.

Rick, if you think about this broadly for the year with our guidance on revenues increasing over last year's revenues by low $30 million range and the investments spending that's happening starting to happen more on the SSG&A line, although we still have heavy spending on the meter placement, we have a pretty good contribution to GP this year, probably in the $20 million range. But we are spending it and spending more on the SSG&A line probably in the mid-teens. So, incrementally last year we told you we invested about net 57 million in OIBT in diabetes, and this year it's going to be less than that, although the absolute spending is over, but the sales are allowing us to spend that number so we are probably going to, versus last year, next year contribution to the P&L be about $7 million less net spending.

Separate question, maybe surprising to focus on the small piece but Discovery Labware. A small piece of the business. But am I seeing the numbers correctly? This looks like the best quarter particularly in the U.S. that I've seen in quite a while. Anything going on there that we should be aware of?

I think Vince would agree with you so I will let him answer.

Rick, this is Vince. There are a couple of things going on there. I think you are the first question on Discovery Labware that I've received. It is up and it's up because, first, we've really improved the operating effectiveness of the business, and we are gaining back some shares that we had lost several years in the basic fluid handling business. So you are starting to see that improvement flow through on the sales line. And secondarily, there is a lot of churn going on in the distribution channel at the moment with Corning exiting VWR, and we are picking up some incremental share there as well. I will expect to continue to see strength through the rest of the year.

Hi single-digit growth in the U.S. looks do-able for the rest of the year?

Yes.

Great, thank you.

Our next question comes from Glen Reicin with Morgan Stanley.

Good morning, folks. Couple of questions. Can you be more specific on the tax rate, if we are expensing options what would the effective tax rate be for Q3, Q4?

Q3, Q4. Let me see if I can do this for you, Glen. We said that the effect -- let me look at the whole year for you and see if I can do that. We're going to have -- total expenses, let me remind everyone, for stock options is $.17 in the P&L and obviously there's a component of that that has hit, hits gross profit line and hits SSG&A and a little bit bit into R&D. If you look at our tax rate, all in reported for 2005, we think it will be about 24%. That has two things in it. One is it has the $.04 that we had in the first quarter that you'll recall. And secondly it has the impact, the tax impact of the tax benefit that's within that $.17. That number is about $17 million, that tax benefit, with total comp expense that we are expensing of about $62 million for net of 44, 45 million, which is $.17.

So, what you are saying is we should take 25 in the up percent, net out to 17 million?

We said 25.5% is if you take out that, the comp expense out of the income and also take the benefit out of the tax rate. And also take out that 4% tax reserve reversal that we had because we had favorable outcomes in a number of international jurisdictions that you get to 25.5%.

So I'm just as confused now on Q3, Q4. 123R is with us, so, I don't know why we should be excluding that, so what is the effective tax rate for the second half of the year?

I will tell you, we, I don't have that number right in front of me, see if that's confusing you I imagine it's confusing everybody else and we will provide it supplementary or we will get it at the end of this call and we will give it to you to the entire call.

Excellent. I want to put you on another item. You said that the upside in the quarter relative to expectations was the flu and I think FX. I saw it a different way. I saw the flu numbers as offsetting the distribution number and that the upside was really to the tax rate. I'm wondering for the year, the change in guidance for the year, if that's not just a factor of a lower than expected tax rate and FX?

Well, actually you don't have it, which may be unusual, but the tax rate actually had --

Well, last quarter, you gave us this low tax rate and you said it would be offset by a higher tax rate in Q2. So, I don't know if I was the only one, but I was assuming a 27% tax rate this quarter.

It looked like it didn't happen, those items, those items are now looking like they are in the third quarter, a small piece happened, but it was less than a penny. So we still think that will happen in the third quarter and that's why we showed it that way in the going forward. But we've taken all that, any of that benefit out because it just washes for the year at 25.5%. You know, again, the only unusual items that get us down to 24% are the comp expense and the reversal of those tax reserves. And if you take them out, we will be at 25.5%.

Okay. One last question. When we look at gross margins, I was a little bit surprised because a lot of your higher margin businesses, obviously the U.S. didn't perform as well because of the distribution issue, but we saw gross margins pretty much stronger than expected. Was that all diagnostics that really drove that improvement?

The flu certainly helped. There was that mix part of it. Diabetes is a higher margin business for us, as you well know, and that did. And the productivity side, as Gary just said, continues to give us a lot of push through the system. And despite that, by the way, we overcame a lot of resin cost. Now in the quarter, too, obviously higher sales and the FX component of that is also going to push gross margins. But it's kind of all of those things.

Okay. Thank you. All right.

Our next question comes from Mike Weinstein with JP Morgan. Sir, you may ask your question.

Hi guys, it's actually Kim Weeks here for Mike Weinstein. Just wanted to start out actually with a follow up on the safety products with the U.S. distributor inventory reduction in the quarter. It sounds like, based on your guidance, this is a one-time issue and sort of going forward you should be on plan. I'm just curious, as part of this destocking, was there any push from the distributor for you to kind of offer pricing discounts or what have you, such that we might see some lingering benefit? I'm sorry, some lingering discount to the numbers there going forward.

Gary and Bill can talk to that.

We do not engage in promotional discounting to distributors as a matter of policy. So there was no push there nor was there any activity in that regard. Whether or not the inventory adjustments are complete or not is not something within our control. We would assume that the bulk of that would be in the second quarter. We don't know that for sure. And one other impact on safety in the year is that the BD Nexiva product, I spoke in previous meetings about the supplemental growth that will be coming in U.S. safety due to new device introductions, future generation devices. We anticipated having the BD Nexiva on the market in early this fiscal year and that was a little bit delayed and we are just coming to market now, and I think that will be more of an '06 opportunity at this point. But that would be another factor affecting the medical safety growth numbers relative to what we initially projected. By the way, one of the reasons that the inventory levels are going down in this major distributors are because surface levels are up considerably. We've been quite a bit more effective on our service side and that's enabled them to bring their inventories down.

That's really helpful. Thank you. I guess the one follow up would just be on your R&D, you definitely did show some accelerated growth in the quarter but still a little bit below our thinking. Is it R&D that kind of contributes -- I mean the fourth quarter guidance is a little below our thinking. Is that sort of where we really start to see the R&D pick up in some of the key projects falling into the fourth quarter?

You definitely see the pick in both the third and the fourth quarter. These programs tend to take longer to get going, some of the licenses take longer to get, some of the people that we are hiring took longer to get, and so there was some delay; plus in the first half obviously we benefited from the comparison to a year when we were still working on that oncology program and have now finished it. So we are, oh, in the first half, probably 5 or $6 million in there that we benefited from. The fourth quarter, as you point out, where our growth is lower really kind of reflects last year we had a very, very strong fourth quarter where our expenses particularly on the SSG&A line were lower quarter on quarter than we had budgeted, and this year, right now, we don't have that big benefit in the fourth quarter. So that's what's real causing it, not so much the R&D. The R&D was budgeted and, frankly, at about a 12% run rate for the year. You can kind of see that we are going to have more expenses in there but it's really going to be driven more by SSG&A line in the fourth quarter.

Okay, that's helpful. Thanks so much.

Our next question comes from Bruce Cranna with Leerink Swann. You may ask your question.

Good morning. Can you hear me?

Yes, Bruce. I have actually a question for each of Vince, Bill and Gary. And, Vince, I would like to start with you. Just looking at U.S. flow numbers, unless I'm mistaken I thought we had seen the last of the tough comps, or I guess the easy comps in the last quarter in Q1. And that's probably the case as well I think in OUS. I'm just curious, it looks like that business is still performing and I was wondering if you could talk about the strength there in actually in both US and OUS flow?

Sure. The business is performing and the strength that you are seeing is being driven by the ramp up of sales on the Analyzer line and it's really three instruments. It's FACS Canto, really in both U.S. and Europe; the LSR II, which is an Analyzer with multiple lasers and that is stronger in the higher end of the research market than we had expected doing extremely well, especially in the customized segment.

Then outside the U.S., in the developing countries, the FACS Count is doing extremely well. Just a couple of other notes on the markets. If you went back and you looked at Europe, Europe had a very strong first quarter, probably driven by some customers finishing up their calendar year budgets. And so they were softer this quarter than last quarter. And then lastly, in Japan, we actually, there was no Japanese supplemental R&D budget in the life science area this quarter and we had to jump over that which was about 4 million. So all in all, good performance when you consider those factors. So an a year-to-date basis when you look at the strong first quarter where we are this quarter we are right about where we expected to be.

We've anniversaried all those launchings, have we not?

We have anniversaried -- the Canto was a year ago. But certainly, yes, LSR II is more than a year ago, but we are getting good grade. Remember, the Canto originally just came out in Europe. So we have not anniversaried the launch of the Canto in the United States.

So the last four quarters were kind of trending along, all in, about 100 million or so give or take and then we go up to 114 this quarter and that's really, there's nothing unusual there in your opinion?

No, nothing.

Okay. And then for Bill, I guess just quickly on the diagnostic side, I understand you had a big flu season. I get that. Still I look at 119 million. It seems like a big number OUS. And I'm just curious, and, of course, I would like to know if you can put some, size that for us, if not in a dollar sense what it was additive, maybe percentage growth in rapid flu year-over -year, or either one of those metrics would be good, and I guess what I'm trying to get at in a back-handed way was some of the strength there in Phoenix and how is that going?

A couple of quick comments. On the flu I remind you that we had explained in the first quarter call that it had been an extremely weakened, essentially nonexistent flu season. So the second quarter, and particularly as John mentioned, that flu season did bounce back in Japan. It was the third most serious flu period that they've had in the country over the last ten years as monitored by their infection disease group and we were successful at capturing elements of that business. Japan, far and away, was the driver. Essentially, of our flu sales worldwide, the reason you see so much growth in the international piece is about 3% of all of our flu sales came out of Japan and it all flowed out of there pretty much in the second quarter.

I'm sorry, what was that percent from Japan?

The percent from Japan, of all of our flu sales, was over 80%. Because in the U.S. there really wasn't anything much of a flu season. It wasn't even as good as last year's and last year's by most characterizations was kind of routine or regular. So we had a soft flu season in the U.S. that was really offset looking at our rapid business by a very strong flu season in Japan, all of which came late in the quarter. Flu B in Japan was what drove this activity in the quarter.

So again just to push it back, can you give us a sense on a percentage basis the change year-over-year?

Six months all in for flu, year-on-year very modest growth, low single-digit growth for flu year-on-year. Once it's all in.

Okay. And then can you give us a quick update on Phoenix in the U.S. and how that's going?

Well, if you don't mind, I would like to emphasize that I mentioned last quarter that Phoenix Europe was continuing to improve its growth rate, and we have had another encouraging quarter in Europe. Admittedly on a small base, we've essentially doubled our sales in Europe in the second quarter. Our launch activity in the U.S. continues to goes well. We are completing all of our lab information system interfaces this quarter and so we are still, as I mentioned the last time, completing a lot of significant preparatory account prep work and account planning work, and we continue to be optimistic about the U.S. But nothing of consequence in terms of U.S. sales with Phoenix yet.

Okay. That's helpful. Thank you. Then lastly just to not leave Gary out, I guess I'm looking at the safety sales in the OUS sales. And just looking at the relationship of pre-analytical to the total, can you explain to us or give us some sense as to why the EU or maybe OUS, in general, seems to be more receptive to safety products in collection and not so much on the medical side?

I think there is probably two principal reasons and Bill can fill in this as well. One is that in some countries in Europe the sensitivity around blood handling and blood drawing had been accentuated by past experiences with blood contamination scandals. France, in particular, was a country that ran into problems with that and even in the absence of any legislative or regulatory activity, they had been driving more quickly around the blood drawing side of safety. And on the whole, we think that bodes well for safety overall because once facilities start to go towards the direction of needle stick protection in one area it usually foretells that it's going to happen in the other areas as well.

The other factor is that there is a higher proportion of plastic tube transition in the total diagnostic safety growth number outside the U.S. than there is in the U.S. So, that component builds the diagnostic number bigger from an outside U.S. perspective.

In general, on the medical side, we would anticipate that the intravenous therapy side would end up going faster than the injection side of it did in the U.S. And the market for injection safety devices, direct skin injection is really just getting started outside the U.S. I will note as well that we've been putting a lot of emphases, in terms of adequacy and policy work, on injection safety in developing countries and over the coming years we anticipate that that will probably play a bigger role than you might expect. Although it's at much lower pricing levels, and it's different devices because injection safety in the developing world also involves prevention of reuse. But that's another area we've been putting a lot of emphasis, but it's not really reflected that much in the numbers outside of child immunization safety, which is not included in our safety numbers. Hopefully, I didn't give you too much on that.

That's good. Thank you.

Next question, operator.

Our next question comes from David Lewis with Thomas Weisel Partners.

Good morning, just a few questions. Gary, a couple to review real quick here. On pharmaceutical systems sales, obviously we saw some moderation this quarter and sort of a re-acceleration this quarter on a fairly difficult comp, so can you give us some more granularity on what's happening in pharmaceutical systems, is that a sustainable trend?

Well, sure. In Europe, we are seeing a lot of strength in the vaccine component of our total European pharm- systems business. We do anticipate that that will continue with a general trend, I'm not saying that we will repeat the type of strong quarter internationally that we had this quarter, but that seems to be some underlying strength in the market. In the U.S., in fact, things went the other way, we were up against a particularly difficult comp in quarter two because year-to-year growth in the second quarter last year in the U.S. was 33% and they actually had their highest revenue quarter in their history. So it's one of the reasons that the U.S. sales in pharm- systems were down year-to-year. On the whole, we are probably looking at upper single digit reported growth for the global business; for single digit approaching 10% growth for the year. So that should answer the question on the sustainability.

Okay. We talked a lot about BGM obviously stabilizing and it'd grow very nicely, what about the future, Gary, in terms of continuous monitoring initiatives and other next-generation R&D efforts, either internal BD or in collaboration with Medtronic?

Without going into detail which would disclose more than what we're prepared to disclose at this point, we are actively engaged in technology development, particularly out of our research facility and in Triangle Park, North Carolina, and it's involved in the fields that you would expect it to be involved in as a player in the market.

No updated time line as to when we could expect you to discuss these issues in more detail.

In terms of discussing it, no, we haven't determined when we would start discussing it. I can't give something right now.

And, Bill, just in terms of broader assay development on the SD&A. platform, Roche and Gen-Probe are still continuing very significant assay development making some very large deals in that space, what is kind of coming down the pipeline for broadening out the SD&A platform to stay on par with some of the broader amplification providers?

We will continue to roll-out, on a limited basis in Europe, the atypical pneumonia panel this year. Primarily, we are focused on Legionella and we are continuing to look at a longer term menu application associated in and around other sexually transmitted diseases, which fits our market success path to date very much.

John, one more quick question on the financial side, I don't want to beat this inventory dead horse anymore, but has the distributor given you an indication to lower their weeks of inventory they were carrying to a certain level and can you give a sense of where they are in terms of that process?

They haven't given us that kind of specificity. They announced that they were going to do this. I think it's pretty much publicly known throughout the distributor network. And our sense is, and it's just an estimate on our part, that we are by and large done with it. But I think we would rather wait through the end of the next quarter to see whether or not we could get back to what we think would be a normal pull through of our inventory. When you look at the amount of take by that, if that distributor for the first half of the year, it isn't that much out of line but with our expectation of what the take should be, but we will have to wait until the next quarter.

Okay. Thank you.

You're welcome. Next question, please, operator?

Our next question comes from Sara Michelmore with SG Cowen. You may ask your question.

Yes, thanks. I guess a question for Bill. When you talk about the ProbeTec trends in the quarter and what the outlook for that business is next couple of quarters?

Sure. Our growth rates for the second quarter were very much in that description. I think I used it in the first quarter. We started normalizing given the prior year comps that we have. So the thing about the ProbeTec business growing at a healthy single digit rate, particularly driven by growth in the U.S. and Canada, including some major new accounts that we required in the U.S. We also have our first sales conversion in Japan. You might recall we just launched in Japan late in the first quarter, and so our first half of the year is pretty much in line with our expectations. Our install base continues to track around the commitments that we made at the beginning of the year. And that goes for both ProbeTec ET as well as the Viper platform. We continue to promise large customers availability of the next available or next generation Viper platform by the end of the year, and we appear to be on track to do that.

Great. And, John, I was hoping you mentioned resin prices and I know that you mentioned that on the last call as well. Can you give us a sense of magnitude in terms of negative pricing and the impact on gross margin from resin prices in the quarter?

I will give you a sense of what have we think it will look like for the year in terms of, we knew some of this was going to happen going in. And for the year against where we thought we were going to be which is probably $30 million that we think we will have to overcome and we've overcome a lot of it as you can see already. Beyond that, I think I would be getting a little too specific, just order of magnitude, we, in past numbers, before the price increases came around we were spending 130 to $150 million in resin costs. And with oil wherever it's going to land and how that ends up translating into our prices and deals, we are not yet fully confident that we can answer that. So so far that's what we think it would be for the year about that much incrementally and, again, the programs we've put in which we've talked about for some time now have gone a long way in overcoming that charge.

Okay. That's very helpful. One last question for Vince, I know it's a small business line, but can you update us on the 80 product line?

On the cell imaging piece, it had a good first quarter and was about $1 million this second quarter. What we are seeing is that we are starting to build a very nice pipeline of customers for the instrument, for the adult pathway, this is the one that is set in the Confocal Imaging device, it sells for around 300,000. We had said that we think we will make about 10 million in revenues for the year. And most of that is going to happen in the third and fourth quarters. And we are seeing the pipeline develop. It will be a matter of do we close, you know, the timing of the closing of those instrument sales. But good first reaction from the customers. The second thing is that the small Carve instrument which sells for about 60,000, we just launched right now and are just starting to take the first orders for that.

Alright, thanks so much.

Next question, operator?

Our next question comes from Quinton Leid with Robert W Baird. Sir, you may ask your question.

Thanks for taking my call. Vince, to follow up on Sara's question, we've heard there's more cautionary statements from some of the instrument makers and life sciences with respect to pharma spend. What are you seeing with respect to your customers especially as you mentioned Atto and some of your big flow cytometers?

Pharma is about 25% of our market. And so we are seeing good strength in the research academic marketplace. We are still seeing some good interest in pharma, but when you get these consolidations obviously there's a negative impact there. So we don't see pharma ramping up dramatically but it's been healthy. But more of the growth is coming on the research side, specifically on Atto. Our interest is coming about 50/50 research and pharma.

Thank you. And, John, one question on your net interest line, I noticed that there was a big drop sequentially from Q1 to Q2, from about 9 million to 4.5. What happened there?

Well, we -- between the two quarters there were a number of things, higher balances certainly got in there. Between Q4, I'm sorry Q2 2004, higher balances in Europe where we keep most of the cash. That was kind of offset by some higher rates because of the interest swaps that we had put in place on those hedge deals we did a couple of years back expired. We also took a number and reclassed it that used to be reported in SSG&A, which is interest related to deferred compensation. We actually have deferred compensation plans that you can, in our proxy, we used to record that with the op expense that's recorded in connection with those things growing. People allowed us to put them in certain funds and things like that but it's an unfunded plan but we theoretically would move that interest up there, we have now moved it down to the income line and that was about $2 that's the biggest single part of it.

So, then going forward will it look a more like the Q1 rate, or the Q3, Q4?

It would be a little higher than Q2.

A little higher? Okay, thank you.

I just before we take the next question, just to make sure that we got back to Glen Reicin, God forbid I forgot him, if you look at the back half of the year, the tax rate probable is going to be in the range of 27%, maybe slightly lower than that. But if you use 27% reported. So that has everything in it, compensation expense, the eventual turn around of that $.02 benefit we had in the first quarter, all that would be about 27%. Our reported tax rate through the first half of the year was just under 22%. When you kind of balance them out that's how you get 24% for the year. Again what we tried to do is say what's unusual and one was that $.04 benefit we had in the first quarter, that was worth about $11 million on the tax line as a credit. And if you think about compensation expense, we've been telling you it's going to be $.17, just take the average shares outstanding of about 260 odd million, multiply it by $.17 and you will understand that the gross comp expense would be close do 61, 62 million. That attracts a tax credit in the 27, 28% range. So, it's a little bit higher credit than we otherwise would get because more of it resides here in the U.S. and you factor those in there that's how you would come up with that back half of the year and 24%. So since I said that now, and it's out there, if you need more help on that on that, I will, we'll help Pat get the numbers together and you can call her and she will help you on that. All right. We have time for one more question, if we can, operator.

Thank you, sir. Our last question comes from Larry Keusch from Goldman Sachs, sir, you may ask your question.

Hi, good morning. I guess, John, for you or maybe Gary, it sounds like the inventory work down by the distributor was not due to some specific issue that they are having and maybe even somewhat related to your service levels being even better than they've been. The question is, could this not be something that we see for other distributors as we move forward herr going through the year, where they start to also react and take some inventory levels down?

Gary, do you want to -- ?

I think at any given time, distributors might take inventory down. So that could happen at any given time. This particular distributor has been on record and has publicly disclosed the fact that they had planned to do this I think as part of an overall problematic effort they had within their company. I think there were circumstances related to this particular large distributor that were behind this. Beyond that there's not much more than we can comment on. The primary factor which helped enable this to happen, as we said before, has been our service levels which have become quite, quite effective, like the no good deed goes unpunished story, but it's something we would have anticipated would have happened at some point in time and, essentially, when it happens it washes through after a quarter or two and I would think the important factor is the underlying growth characteristics of the market.

Just to kind of just expand on that a little bit, service levels are something that we certainly have been after, continue to be after with a mindset of trying to bring our inventories down. We would like to get our finished goods inventories up and that's an objective that our manufacturing guys have, as well as all the business guys, everybody has that. But that, in itself, doesn't happen overnight and this is an eventual process and I think that that is, won't be an event that would cause any distributor to just drop their inventories. I think more likely as with this one they, too, are concerned with margins. We don't promote so it doesn't do them any good to buy in any faster than they have to. But this one was particularly vociferous about taking their inventories down; they did in large part it's not complete as you may see others follow, but also they need the efficiency to be able to respond on their side to be able to get it down.

Just one further note, it's likely in the second quarter that two other of our distributors also have already taken inventory down as well. It wasn't of the same proportion because they are not as large. One of them though is a good size distributor so we may have seen that in fact as part of the quarter as well.

This is in fact our biggest distributor. So you would expect that this would be the one --.

Okay. And then just two other quick questions. Maybe, Gary, again you can help remind us on some of the new products that we could be coming through medical that you guys could talk about either in the second half of this year as we move into '06? And then the second question for you, John, is, again, if you look at your cash flow from ops and you are obviously well on your way to getting to your targets, your CapEx spending, your dividends paid, et cetera, you clearly will have excess cash, and just trying to take, get a reading from you where you think you might deploy that excess cash? Would you essentially be more at the upper ends of the share repurchase, or will you guys look at dividends policy again? Any thoughts there would be great. Thanks.

Gary, you want to go first?

Sure. I think looking forward, let's say over the next year or so, I mentioned the launch of the Nexiva and also the companion product called Q-Syte, which is a needleless IV injection site, together they represent a strategy of having devices that not only protect healthcare workers from occupational injury but also improved infusion therapy procedures and potentially reduce the incidence of bloodstream infection because both of these devices are part of a closed IV system strategy to reduce the number of open components that are in place when you place an IV catheter. This is particularly relevant not only in the U.S., as a means of further upgrading from the existing safety engineering devices, but also in places like Europe and Japan where open IV systems, stop cock and open IV port base systems are still commonly used. And we believe that the introduction of these technologies will help reduce the incidence of hospital-acquired infections. That's probably the most important introduction happening in the immediate time frame.

Another key one has been the introduction of safety engineered devices in our opthalmic systems unit. You are not seeing the impact of that yet because these devices were just introduced but that includes a safety knife with a new blade called Xstar, which is a much improved steel blade and we are also anticipating within the next six months or so the introduction of a all new blade decide, a silicon blade, that would be, by far the sharpest disposal opthalmic blade ever introduced. That's safety and also clinical benefit.

In general, our growth in medical is coming from five areas: it's coming from safety, from pharmaceutical systems, from pen needles, from BGM, and from prefilled flush syringes. We would anticipate those would continue to be the key growth drivers over the next year or so. Over the longer term, one of the technologies we talked about is an advanced drug delivery, which is active in development, and there are a few other new technologies in development that we haven't talked about.

Thanks, Gary. Kind of to your macro question on cash flows, you are right, we are well along the way there, the company is very focused on cash flow. When we, assuming we were to bring back money under the Jobs Creation Act, as you know, Larry, and I'm sure everybody out there knows but it's worth saying is that that can't be used for repurchases of stock. So that whatever amount we brought back and we had said that it was likely that it would be in the $500 million range. We wouldn't use it for that, but we would use it appropriately as provided under the law.

That said, we are still going to generate lots of cash, you know, you kind of think about it's complicated as we may seem with all the noise around this press release, it's because of the oddities of us having early adopted the equity accounting. Luckily, for us, we will be done with that next year. At the end of this year and then all numbers are comparable, where our 12-31, brethrens are I would guess largely adopting it at the last minute which will be on 1/1 of next year.

So, we won't have that and when you think about it, as Ed had said, and all of us had said take away foreign exchange we are kind of a 6, 7, 8%, it kind of depends on the year's top line grower, takes that, turns it into kind of lower double digits on the bottom line and generates a lot of cash and we give a lot of our cash back to the shareholders and that will still be part of it. It will be close to 200 million in dividends this year going back and 450 in share repurchases as presently construed. We always have the pencils coming back to our board for more of that. But that's their decision.

So that alone is $650 million. We think that that's important. It's an important part of what we do. And, but the cash flow generation also gives us the option when we find properties or, to do them, they've been smaller bites and are more like to the stay that way right now. But, when and if, something comes along that really can move the needle certainly we have financing ready to be able to respond to that opportunity. That doesn't say that we know of any but we certainly look at those type things. So I wish I could be more specific, Larry, but that's kind of it. That's where we are right now.

Great. Thanks, guys.

All right. Well, thank you for your attention. Sorry about reading the same page twice. It was to see if you were awake. But we will talk to you next quarter. If you have any questions that we can follow up on within the confines of what we talked about today, please call Pat. Thank you.

This concludes today's conference. You may disconnect at this time.