酷柏 (COO) 2008 Q2 法說會逐字稿

Good day, ladies and gentlemen and welcome to the The Cooper Companies announces second quarter 2008 conference call. My name is Fab, and I will be your coordinator for today. At this time, all participants are in listen-only mode. We will conduct a question and answer session towards the end of this conference. (OPERATOR INSTRUCTIONS) As a reminder, this conference is being recorded for replay purposes. I would like the turn the presentation over to your host for today's call, Mr. Al White, Vice President, Investor Relations and Treasurer. Please proceed.

Thank you. Good afternoon, everyone, and welcome to the Cooper Companies second quarter 2008 conference call. I'm Al White Vice President of Investor Relations and Treasurer and joining me on today's call are Bob Weiss, President and Chief Executive Officer and Gene Midlock, Chief Financial Officer. Before we get started I would like to remind everyone this call will contain forward-looking statements as defined by the Private Securities Reform act of 1995, including all revenue and earnings per share guidance and other statements regarding anticipated results of operations, market conditions and planned product launches.

Forward-looking statements necessarily depend on assumptions, data or methods that may be incorrect or imprecise and subject to risks and uncertainties. Events that could cause the results and future actions of the company to differ materially from those described in forward-looking statements are set forth under the caption forward-looking statements in today's earnings release and are described in the SEC filings including the business and risk factor sections of Coopers annual report on form 10k. These are available publicly and on request from the investor relations department.

Now before I turn the call over to Bob, let me comment on the agenda for the call. Bob will begin by providing highlights of the quarter followed by details on several key topics, following Bob's remarks, Gene will comment on the second quarter financial results. We will then open up the call for questions. We intend to keep the management presentation to roughly 30 minutes, followed with 30 minutes of Q & A, so that the call lasts around one hour in total.

We request anyone asking questions limit yourself to only one question so we may get to as many calls as possible in allotted time. Should you have additional questions following the call, please call Lindy Cady at 925-460-3663 and we will get back to you as soon as possible. As a reminder this call is being recorded and a copy of the press release is available on our website www.coopercos.com under investor relations.

With that, let me turn the call over to Bob for his opening remarks.

Al, thank you and good afternoon everyone. I hope is as excited about our results as we were, as we issued our press release moments ago on our second quarter results. Before I get too much in to the detail I would like to make sure that everyone understands that if you hear nothing else I would like you to walk away with certain key highlights and key messages from today's call.

First of all, the global contact lens market remains strong, we don't say it's recession proof, we do say it's recession resistant. So we have a great market that we are participating in. Secondly, our products are doing fantastic. We view we have the best in class products in each of the three modalities of contact lenses, the single use lenses, which is our Proclear one Day entree. In the two week space, which is dominant in the United States where two-thirds of the market is two week and in the two week, we now have launched Avaira. And in the monthly space, we have Biofinity, best in class in the silicon hydrogel monthly market. Financially performing solidly, our restructuring charges are almost behind us. We continue to see manufacturing improvements across all product lines, and we should start seeing free cash flow in the third quarter, if not, a net positive very close to a positive.

CooperSurgical continues to perform well and really supports the overall business with its free cash flow. As far as second quarter results, I view them as very impressive. And hope you share that. We had $263 million in revenue, up 17% and 10% in constant currency.

CooperVision had revenue of $222 million, up 18% and 10% in constant currency. CooperSurgical contributed $41.5 million plus 11% and 9% of that was organic growth. Our earnings per share in accordance with GAAP was $0.25 for the quarter and our earnings per share excluding call outs was $0.49. I will let Gene elaborate on the details of the numbers.

As far as new products driving the top line, Biofinity for the quarter had revenue of $12.4 million, which is now at a $50 million annualized run rate. That is in line with our $50 to $70 million expectation for the fiscal year. Biofinity sequential growth was 37% above the first quarter, which was $9 million in revenue.

Biofinity, effective in March of this year, no longer had any rationalization going on worldwide, in fact we now have adequate capacity of Sphere to roll it out country by country anywhere it is approved to be sold. Biofinity will now be rolling out expanded powers in to higher minuses and pluses so we will be filling out the range.

Proclear, our one day single use product, had revenues $7 million, up 1200% above the prior year, but importantly sequentially 47% above the first. Proclear one Day also effective March of this year, no longer had capacity constraints. Overall our single use Sphere market was up 62%, above the prior year. 44% in constant currency.

Avaira was launched in April of this year. It had insignificant sales for the second quarter of only $114,000. Avaira is capacity constrained today but ramping up nicely. Avaira we expect to meet or exceed the $8 to $10 million of targeted revenue we had in our fiscal '08 guidance. Part of our bullishness on that is the fact that in May of this year or May that we just concluded we sold $2.6 million of Avaira, some included certain chains.

So that leaves us feeling comfortable as far as our expectation there and quite frankly we probably are more in the $10 to $12 million than the eight to ten that is in our guidance. As far as Proclear one Day, when I say it is best in class, that's our entree into the single use market which it is comprised 34% of the world or $1.8 billion. Avaira, participates in the two week space which is 39% of the world market or $2 billion market.

Biofinity participates in the monthly space which all monthly and beyond is 27% of the world market or $1.4 billion. Having a play in each and every one of the modalities, we view it as very crucial to our success going forward. As far as future products are concerned, our outlook is bright.

With Biofinity we now have a manufacturing platform, that will allow for $200 million in revenue which equates to about $70 million lenses of throughput. With that expanded capacity, we are now on track to launch a silicon hydrogel Toric that we are now forecasting for the first quarter of calendar year '09. In fact we expect to start production this quarter.

We will launch with 1200 SKU's not 864 like a competitor recently did. We will launch an expanded range of 3800 SKU's, that they require we will expand out within 12 months. We will also launch a two week silicon hydrogel Toric by the end of calendar year '09.

Remain on track to launch Proclear one Day in Japan in the first half fiscal year '09 and keep in mind Japan is a $1.1 billion market. 57% of that is single use lenses. Proclear one Day which is a very nice entree, we expect a lot of good things out of it in Japan.

We expect new products to exceed 70% of revenue in 2012 and the new products we launched since 2005 exceed 26% of our revenue. As far as the market is concerned, we are cutting back on a lot of the data that we have done slicing and dicing it, so many different ways people start losing focus on which numbers we are talking about.

So hopefully you find the press release a little streamlined and it was very intentional we cut back on some of the volumes of data we thrown out there at everyone. What you or we need to know abut the market is that in calendar year 2007, it was a $5.2 billion market. And it grew in constant currency 7%. In the first quarter of this year, calendar year, it grew 6%. We have a solid market that continues solid in spite of the recession that may be plaguing the united states and others. The drivers in Q1 '08, single use was up 11% in constant currency and now accounts for 34% of the market.

Silicon hydrogel was up 31% in constant currency and now accounts for 30% of the global soft contact lens market or over $1.4 billion. In the United States new fits were 51% of the total fits in the silicon hydrogel modality and Torics 45% were silicon hydrogel fits. Looking at our products, in the second quarter ended April 30th, our single use was up 44% constant currency. Proclear family of products up 25%, and our geographic expansion in Asia Pacific saw a growth of 22% also on constant currency.

Silicon hydrogel, really Biofinity is now at a $50million run rate. As I indicated it's within our range of $50 to $70 million estimate for this fiscal year for Biofinity. We are obviously excited about this momentum. And we have only just begun to roll out our Avaira two week space.

Regarding Avaira, yes it's true we distributed the product to Wal-Mart. I can confirm that. Regarding Avaira, yes it's true it's available for private label. If it's a win,win for us and the large chain, and yes it's true, we are on track to exceed the eight to ten million of revenue for this fiscal year.

We are also on track to roll out 10,000 fitting kits by the end of this fiscal year and expect to roll out a total of 17,000 in rolling out the product over the next 12 months. We sold $2.6 million in May as I indicated. This why we remain in our confident of beating the eight to ten million in guidance.

As far as guidance, cash flow and CapEx and margins is just to pull that all together, I will let Gene get in to the Q2 numbers in a lot more depth. Importantly we have not changed our guidance. We expect to improve our GAAP gross margins and operating margins going forward. We have great visibility on start up costs for three key areas, we can see what is going to hit the P&L, seven months in advance.

The three key areas or products being high volume that conversion we did late last year. On to GenII, Proclear one Day, as well as Biofinity. Two months after our year end shutdown in December, which we do as a matter of historical cycle, we shut the plant down, during a slow period. We did a conversion over of certain things we learned in our line five Biofinity which was different to R&D, as a result we saw our yields double compared to November between November of '07, and March of '08.

We doubled that equated to going from two million lenses a month to four million lenses as month at the same cost what does that mean? If I were to translate having two million more of lenses available to sell, assume you sell 70% of them, at a price of around $4 or more, that would be 5.6 million monthly or $67 million annually of revenue and gross margin, there is zero incremental costs on that.

One of the drivers from going from GAAP to where we are headed and why we are confident on the visibility, is the fact that's in the bag. We've already done that conversion. And we already know we have the yields above our targeted 50% yield for Biofinity.

Today, Biofinity is hitting the P&L at a run rate of 50 million, and with the capacity we already have in place that we sunk in the CapEx for, we can exceed $200 million in revenue. Among other things, we're expanding the power range. Expanding the silicon hydrogel Toric launch into the calendar year first quarter next year.

As I indicated, we are going to be in production on that this quarter. We expect to expand Biofinity beyond Torics in to multifocals sometime later in '09 or when capacity allows. Important message here is with Biofinity is we already sunk in the CapEx, we have the capacity to generate four times as much revenue of it.

We are beating our targeted yields and manufacturing costs. March's manufacturing costs was less than one-half of November and December. Biofinity is the majority of the call outs that you see in our P&L in the second quarter. As we leverage CapEx and capacity our GAAP, gross margin will go up, our operating margin improve and also will our free cash flow.

On CapEx in 2006, we started six major projects that required in excess of $400 million, three completed costing over $150 million, Biofinity distribution centers and the high volume conversion on to GenII. Our building expansions in the UK and Puerto Rico are essentially complete. Our one day capacity expansion, which is over $150 million represented 13 GenII lines, allowed us to support the best case demand scenario.

Quite frankly given the large lead time we ended up with more capital than we currently need today, there is a good news and bad news scenario about that. The good news is that, in the future we will not need to supplement the cash requirements, and it's also true that we have been running capacity constraint forever and for the first time like many good corporations that run in the neighborhood of 75, 80% capacity. We will have the latitude to back up a line that may go down and do certain other things that we are interested in doing.

So as much as anything while we got ahead of our self and therefore you saw capital be quite high, and some of those capital requisitions are still in pipeline, the end of the first quarter of '09, some of what we ordered last year will still be rippling through the system. After the first quarter of next year, CapEx will drop off, very noticeably.

In addition to CapEx to be spend in '08 and '09 we've sunk in commitments in the single use area, and we still need to sink in money in to the Avaira production area and as a result our CapEx are going to be predominantly in that arena together with maintenance CapEx. Key messages most of our six high ticket capital projects are complete. Capital expenditure will drop off from the $160 to $170 million in '08 to $125 to $140 in '09 and even further post '09, we would expect below the bottom end of that $125 million low end of the range we are giving you for 2009.

Unlike the past three years, we won't have to shift where we make most of our products. We won't have to shift where we distribute essentially all of our products and we won't have to produce only products in every modality such as the two week, the one day, et cetera. All that translates to while we have had negative cash flow in the first six months of this year, about $64 million, we should be closer to a break even over the next two quarters and quite frankly expecting to be positive.

And going forward with much less capital requirements in '09 we will be cash positive we would expect north of $50 million range and thereafter in '09, we would expect to be north of $100 million as among other things, CapEx drops revenue, leverages our plant capacity, operating margins and gross margins improve and then one other thing we sunk a lot of money into inventory build for all new products and we will start getting cash out of the inventory build and leverage that more efficiency in our distribution centers.

CooperSurgical, our women's healthcare franchises, is running smoothly. In spite of a fair amount of non U.S. sourcing. It's gross margin remains around 60%. CooperSurgical's GAAP operating income was 19%, our partnering with the OB-GYN, the on the office setting, that's the hospital has been a stellar success contributing to the organic growth of 9%.

Products targeted in hospitals grew 17% in the second quarter or 12% or $12 million and now represent 29% of CooperSurgical's revenue worldwide. With minimal capital requirements, with a solid balance sheet ratio in both inventory and receivables, CooperSurgical generates a lot of free cash flow.

Effective tax rate, I would like to make a brief comment, I will let Gene say whatever else he would like to about it. I wont try to steal his thunder there/ Our effective tax rate today is in the upper 20s, it reflects the fact isn't that correct that essentially all of our $35 million of call outs, anticipated this year have no tax benefit. And as a result if you were to exclude these or as they go away our effective tax rate from a GAAP perspective should drop to the 15 to 17% range.

In summary, before I turn it over to Gene, remember the key messages, the soft contact lens market is doing great. It's recession resistant. CooperVision now has three new products in each of the major modalities. The one day, the two week and the monthly.

We now have for the first time adequate capacity in the one day and the -- I'm sorry in the one day and monthly modality. We have visibility on our improving margin trends factoring in inventory turns. Our CapEx will be declining post 2008 and noticeably post 2009, second half. And with higher revenue, improving operating margins and declining CapEx, we expect to generate substantial cash flow in the future.

And lastly, CooperSurgical continues to contribute a solid performance. With that I will turn it over to Gene.

Thanks, Bob. Good afternoon everyone and thank you for joining us. I would like to spend a few minutes briefly, and I stress briefly, reviewing some of the key financial results for the quarter. I will try not to provide too many statistics and numbers, so as to kill everyone. You can refer to our news release as well as the 10-Q, which will be filed tomorrow morning at about 11:00 Pacific time for more details.

So let me begin by commenting on revenue and product sales. We had a very strong quarter with revenue of $263.5 million which is up 17% over the prior year, and 10% in constant currency as Bob indicated. CooperVision grew 18%. CooperSurgical grew 11%. Both of our operating divisions did very strong double digit growth.

Product sales, Bob summarized fairly well, but as you will note in the news release, our specialty lens group grew 11% over '07, Proclear products grew 33% and the real gainer was our single use Sphere's which were up 62%. And that was recognized in all geographies, Asia-PAC and EMEA were up around 60% and the Americas were up approximately 95%. So we are really pleased with our growth and daily lens business.

Geography wise over all basis, Americas grew by 10%, Europe 20%, and Asia-PAC 38%. So solid growth again throughout the world for all of our products. CooperSurgical product line grew well as Bob indicated, products that we sell to hospitals were up 17%. Our IVF unit sales were up 18%. International business unit sales were up 25%. So a really strong 11% growth overall.

Turning to gross margin, our consolidated gross margin was 57%, compared to 55% (sic - see press release) in second quarter of '07. And if we exclude our non-GAAP expenses, gross margin was 61% compared with 63% last year second quarter. This breaks out with CooperVision at a gross margin of 57 compared to 55% last year. If we exclude the call outs, the gross margin was 61% compared with 63% in '07.

This is largely attributable to product mix to large growth in lower margin single use lenses, as I mentioned earlier. But as we go through the fiscal year, our cost per lens for Proclear and silicon hydrogel will decrease and will favorably impact the gross margins when those products flow through inventory and the cost of sales which should be in Q4. Hence, we expect gross margins at a low 60% by year end.

CooperSurgical a gross margin of 59%, which was largely unchanged from '07. Consolidated operating margin was 11% compared to 5% last year. If we exclude the call outs operating margin was 15%, which was pretty much the same as last year.

CooperVision had operating margin of 12% compared to 6% last year. If we exclude call outs operating margin was 17% compared to 19% last year. This decrease is generally attributable again to additional selling and marketing expenses, associated with a new product launches and increased in the revenue mix of our less margin products. Surgicals operating margin was 19% compared to 17% '07 and again that reflects a better leveraging of selling and marketing expenses.

SG&A expenses increased by 7% over Q2 of last year, but decreased by 4% as a percentage of revenue from 45 to 41%. If you break this apart, selling expenses, which includes marketing and distribution and so forth, increased by 11% and are 31% of revenue. This reflects the impact of increased sales and new product introductions.

G&A expenses decreased by 6% and are 10% of revenue. This reflects enhanced leveraging of the G&A and some savings attributable to share based compensation. Both categories of expense decreased equally by 2% as a percentage of sales. On a non-GAAP basis, SG&A increased by 13% over Q2 of '07, but decreased by 1% as a percent of revenue from 41 to 40%.

Selling expenses increased by 18% and are 31% of revenue versus 30% in '07, and G&A decreased by 2%, and are 9% of revenue versus 11% last year. Looking at R&D expenses, in Q2 they increased by 15% over last year, $9.1 million and represent 3% of revenue. CVI's R&D increased 18% to eight million and 4% of revenue in Q2. CooperSurgical's R&D, were $1.1 million, essentially the same as in the prior year and 3% of revenue.

On a run rate in the future we expect R&D to be $3.5 to 4%. If you look at the six month numbers it may appear that R&D actually decreased by 10%, but last year in Q1, CooperSurgical had $4.2 million of in process R&D expenses in connection with acquisition, adjust for that and the R&D actually were up 16% year-over-year.

Looking at our callouts or non-GAAP adjustments, they were $11.4 million in Q2 versus $14.2 million in Q1. The details are contained in an appendix in the news release. We expect again they will be around $35 million for '08 or $0.50 to $0.70 a share. We expect they will decrease in Q3 and more significantly drop off in Q4.

Note we will not call out manufacturing and efficiencies associated with Avaira or silicon hydrogel Torics. We no longer call out stocked base compensation, note however and we will talk about this in a moment, we do expect if our convertible bonds are put to us in Q3, there could be a $3 million adjustment for unamortized bond issuance cost.

Effective tax rate for Q2, on the year to date basis is 28.76%. For the year, we expect it to be on a GAAP basis 18 to 20% and on a non-GAAP basis of 15 to 17%. Again it is higher in Q2 because of the adoption of FIN 48. Which requires that you adjust for items discreetly than you do in the effective rate calculation as well as catch up adjustments to match our forecast for the rest of the year.

This rate will decrease in Q3 again because of more discreet items. Note that if we have geographic fluctuations in where we earn our revenue, of any significance, it will impact the rate. Lastly I would like to just address our convertible debentures, which we sent on the news release earlier this week.

It is possible that holders of the $115 million 2.625% converts, which are due in 2023, they have a put option on June 30 and it possible that some or all of these holders may choose to do so. If the share price is not equal to $44.40. The put is expected be funded with the $615 million revolving credit facility, which will result in increase in interest rate to around 5% from 2.625.

There will be an approximate as I mentioned, three million one time charge in Q3 for nonamoritized capitalized debenture issuance costs, which we incurred when we issued the bonds. We expect that the put will be around $0.05 a share dilutive in Q3 and $0.02 a share accretive in Q4 and overall for the year it will be dilutive by $0.05.

On a non-GAAP basis looks like it would be slightly accretive in Q3 and there after. If you're running models make sure you remember to adjust the shares outstanding, when we retire the bonds. With that I will conclude and turn the program back over to Al White.

Thank you Gene, thank you Bob. Operator, we will take questions now.

(OPERATOR INSTRUCTIONS) Mike Weinstein, please proceed.

This is actually Rich Houbron for Mike Weinstein. Can you guys here me?

Hi.

Yes, J & J disclosed at the analyst meeting that one, that AOS's astigmatism lens is launched this month in the U.S. and now it is available globally.

Two they are coming out with a silicone hydrogen lens on the daily disposable side and they are utilizing a new silicon hydrogel material there. Then they also disclosed they are completing the clinicals drug delivery lens for ocular allergies and they expect to file that later this year. Just given you guys wont have the silicon hydrogel Toric offering until 2009 does this change the view on Toric share for the balance of the year?

And what do you think your prospects are for a daily silicon hydrogel lens. And just one more. Do you have an internal program and have you made any progress in developing a drug delivery lens of your own to compete with J & J?

Okay. That was one question? Let's see if I can take them one at a time. As far as we haven't really quoted our Toric market share other than to say once we come out with our own product line, in the silicone hydrogel space that we expect to hold it. Coming off of a 33 worldwide, we don't have our own expectations of holding share.

Having said that, dealing with Oasis, Oasis is coming out with another two week spot where Acuvue Advance for astigmatism is AAA. Priced the same thing. There are two reads on that. Historically J & J has done a trading up mode from Acuvue II to to Acuvue Advance and to Oasis.

They have been trying to trade up 20 or 30% each step up. Interestingly they are not trying to do it with Oasis, they are listing the price the same. So $24 a six-pack is what it's being listed at. It seems to me what they are doing is somewhat defensive that Acuvue Advance for astigmatism is not the product they want to go with longer term.

The other thing to keep in mind is typically a doctor will not move from a monthly modality to two week modality. So they are coming in to the same sweet spot of the market not finding their way in to the monthly modality market. My opinion.

Secondly, as it pertains to the fact that they are in the two week space the fact that Acuvue Advance for astigmatism has been out there and doing well, those people that wanted to trade to a two week silicone hydrogel lens, by and large have traded over a long time ago.

Those that are believers in the hydrogel side of the market and clearly among other things it's the argument of if I'm taking them out every day I'm more concerned about the comfort level and there is just enough of a cult that believes in the softness and the hydrogel attributes, higher water content for example, that I would argue, well it isn't a positive for all competitors, by in large not a big deal.

Mainly them trying to hold on to what they got. As far as the one day daily, that thing really is seems to be geographic oriented. If I'm J & J and I own the one day market and I already have a premium product called Moist, that is substantially priced higher than anyone else's, then I come up with a silicone hydrogel lens that is going to be to try to price at or above that, it's going be a real difficult chore to take anything other than their own share and it doesn't sound like a good trade up strategy because I'm not sure they are not hitting roadblocks on trading people up even higher than what they are.

They are probably in the neighborhood of 50% premium, to the other tier of single use out there. So I see it and they have a lot to lose, not much to gain from two fronts. One is they are going after themselves, without a trade up strategy, two is it probably costs them more. Actually three is what really baffles me is on going litigation between Ceba and J & J, so far J & J lost on every front and the last thing I would do is take something that is in a comfort zone called Acuvue Moist and put it in a double jeopardy zone called silicon hydrogel.

I'm sure a smart company, they know what they are doing I think. But I'm not sold on where that is going and from our perspective globally it's not a big deal. It may make some headway in Europe, but once again that's where they are the most ripe on the litigation front.

As far as the drug delivery, I don't think contact lenses are going to become a household word for how you deliver drugs to your eyes. We are working on that. I would call it niche, but by in large the drug delivery is going to be more a new niche that people are trying to develop.

The average person wearing contact lenses isn't going to rush out to say I want one that delivers the drug. I think it's got a long road from a regulatory point of view before the FDA is going to say good eyed I'd to deliver drugs to your eye via a contact lens.

We are working on it. But it's in terms of number one through number ten priority, I wouldn't put nit the top half of that list. Next question.

You next question will come from the line of Larry Biegelsen from Wachovia.

This is Eric for Larry. In the past you talked about you were uncertain about some of the spending related to the launches to your silicon hydrogels. Now that you have a better understanding of what your capacity is and what you launch plans might be, how should we think about SG&A spending relative to sales growth?

Is that going to exceed sales growth over the next couple of years. If so, can you help us think about that? Could you quantify that for us a little bit better? Thanks.

I guess the way I think about it is over all operating costs if we were going to do a product line P&L on Avaira we are not going to make money on it this year. And we probably won't make money on it next year. You don't try to make money from the get go as long as you know it has good legs.

That continues translates to continuing to invest in fitting sets, and it translates in to investing in the distribution channels we have available. Meaning our sales and marketing organization and it also translates depending on how much blending there is between private label.

The one thing that could happen is, private label is a trade off between operating costs and lower margins. So it's got to be a win-win. A win, for us, if we leverage a large chain with private labels, then there should not be a higher percentage of G&A associated with that.

Where we are going to continue to get leverage is the distribution centers that we set up in G&A n those areas, so if we were to break out SG&A, I would expect our sales and marketing and trial lenses, to grow at least as fast as sales. I would expect to get leverage out of distribution and G&A and as Gene indicated we expect to grow our R & D at or above the revenue growth.

So net operating costs which are currently around 45% will drift down over a longer haul, I would say from 45 it will work itself towards the low 40s.

From the point of view of gross margins, they will be somewhat influenced by the one day mix coupled with how much private label going one way and then the other way is a number of manufacturing improvements we expect to make that will keep trying to push the gross margin up as well as the shift to silicone hydrogel lenses. Did that answer your questions?

Yes, yes. Thank you very much.

You next question will come from the line of Amit Bhalla with Citi.

Hi. Thank you for taking the question. I wanted to ask you questions on Avaira production. Can you give us update out of the UK plant and a sense of how yields and utilization levels are tracking in Puerto Rico versus UK and lastly, when you will see production out of Puerto Rico? Thanks

Yields in the UK on fast track, are at or above that of Biofinity already. We are already, there is no risk to the way we view fast track and there is no risk to our ability to support the eight to ten million or the ten to 12 million. Relative to are we getting product from Puerto Rico, yes we are, they are making it sequentially they are doing at or above expectation. And keep in mind with Avaira in Puerto Rico it's a engineer challenge.

It is not a chemist challenge. We already know the chemistry, we know 90%of the platform. A small piece of the technology gets a lot of attention and as a result of that, we get to do a lot more trial and error. As we see it within 12 months, we expect to hit a level that we are comfortable with on that technology.

Which is to say that we think we will get the platform, a 30 million there are piece of equipment up to the level making 36 million lenses a year or ballpark three million. We are preceding in a very satisfactory mode. To the extent we are making more lenses then would support the ten to 12 million, we may or may not sell those lenses given the fact that we have a lot of paranoia about going back order with large chains, we would rather build some buffer stock.

We are going to play that conservative and not at all risk getting ahead of ourselves with let's say certain or multiple large chains and then can't deliver. Delivering is everything on that one so. Does that answer your question?

Yes. Then just ask you a real quick on on margins for Biofinity and Avaira, do you care to share or give us a range of where they are? Thank you.

The only thing I can help you with on Biofinity. I will make two points. One is, our gross margins for silicon hydrogel, we expect to get to the up 60s to low 70s over the next two years, by the end of two years. Relative to the ramp up of where we are, we are making Biofinity well below what we thought we would make, make it for.

The yields are north of the targeted 50%. When I did the math of the four million lenses compared to two million lenses at the same price, that translates to 100% gross margin on those last two million lenses. If you blend that all it moves up your margins substantially.

What we are telling you is all those callouts associated with the lenses made prior to January of this year, are substantially gone from the point of view what is going onto the balance sheet. We have the visibility that our margins for Biofinity will move in to the upper 60s.

On Avaira we are early if the game so while fast track has done spectacular compared to our expectation, it was easy to do, the real trick to gross margins is going to be the high volume one in Puerto Rico and we are early to get too cocky about it.

Thank you.

Operator?

Your next question is from the line of Joanne Wuensch with BMO Capital Markets.

Good afternoon, this is Matt for Joanne. Thank you for taking the call. Hello?

Yes, Matt.

I would like to ask a question about Avaira. If you can go in to more detail about your asps and how you're positioning the product in your launch, what's your strategy there?

As far as asp's we list the product at $19 six pack. And that compares to Oasis at $20.25. Below that on the listing, I wont get in to exact average realized prices, obviously for competitive reasons. But suffice it to say if we get in to large volume roll outs with retailers, it is likely to be somewhat below that $19.

I don't want to put too much color on where it is other than it's not unusually low, if we were to do private label, that obviously would be a full debate over how much the retailer is going to put behind the product. SO, other than to say we are under Oasis is product is as good or better than it, it's 30% softer from the point of view as not being as rigid of material. It has a lot of features going its way. We think it will do well in the market.

Great and then can you comment on what you seen so far in terms of reorder rates and comment on whether or not any of these Avaira is on back order with any customers?

I can't comment on reorder rates, it's a little over a month in to it. By in large the job is getting it out there onto the shelves where the od of some of these chains and the private -- hope I didn't come across as saying we are only selling it to the large retailers, we are treating our loyal independent private practitioners, they are also being targeted by our sales guys.

So but having said that reorder at the reorder point we are too early to have a read on that. I would say one thing, everyone that has tried it loves it so. We hear rave reviews, I can't translate that in to financial dollars and cents at this point.

Great. You said that you are constrained on Avaira, but not on the other line?

We will are capacity constrained Avaira and we will probably be capacity constrained on Avaira for I would say at least the next 12 months.

Okay. Thank you very much.

Your next question will come from the line of Larry Keush from Goldman Sachs.

Hi, good afternoon, guys. Just couple of questions. As it relates to the callouts, you did about 26 million year to date. You're talking 35. I just want to get a sense of the gaiting, is 80% of the remaining callout in the third quarter and a little left if the fourth? I just want to get a feel for how you are thinking about that.

I think it's accurate to say. I don't know if it's exactly 80% but there is a huge drop off after the end of the Q3, nothing more than if you use the seven month factor you will see how a lot of that will drop off.

Right, understood. Just coming back to Gene. You went a little fast through the cash flow expectations, I'm wondering if you could just run that with your comments for '08 and '09.

Free cash flow?

Yes.

I went through the cash flow. Basically we are out the door about 64 million year to date. 16 million this last quarter.

Our expectation is that for the balance of this year net positive, to and including in the third quarter we expect to be net positive, it will be close, but my bet if you will is that we are positive. Going in to next year, we expect to generate free cash flow in excess of 50 million.

Relative to gaiting of capital requirements there will be a huge drop off after the first quarter of next year, and that's because all of our the money we are now spending was pretty much committed over the last six to 12 months, a lot of these equipments have 12 month to 18 month lead times in the case of the large Avaira line, it would be 18 months lead times, as CapEx on building expansion.

The visibility is once we flush through those existing commitments we know that we have more than enough capacity on Biofinity, on the one day modality, and the only one we are continuing to source if you will in terms of CapEx requirements is primarily Avaira and rapping up one building expansion in Puerto Rico that will be pretty much money out the door by the end of this calendar year.

Okay. Got you. Lastly just quickly with the revolver and obviously not contemplating the put of the convert here. Where do you stand with the available borrowings on that and where are you with your EBITDA covenant right now?

As far as we have adequate capacity under our revolver to convert the debt from two and five eighths under the revolver. On EBITDA coverage, let's see we are comfortably there, monitoring, we obviously are keenly aware of our covenants and monitor that religiously.

Bob, but you don't have your kind of where you wound up at the end of the quarter with what is available on that revolver?

200 -- I can give you the exact number, Larry I think it was like 225. Something like that available.

Okay. Great. Thanks very much guys.

(OPERATOR INSTRUCTIONS) Your next question will come from the line of Peter Bye from Jefferies & Company.

Good afternoon, guys. Just a question or two on guidance, I guess, you've got some visibility on gross margins because of the inventory you worked through, and you know what your margins were on the products earlier this year.

If I sort of add up what you did the first half of the year on pro forma EPS and if I see no expansion from back half last year's pro forma EPS, I get to 217. I understand interest expense is higher, that's only three or four cents, I was just wondering perhaps what's the precluding you from raising up the bottom end of the range?

What is precluding us from raising the bottom end of the range?

Well if you keep pro forma EPS flat from a year ago even though you've had a fair amount of progress on a manufacturing front, why would EPS conceivably even possibly be flat from the back half last year?

I think the only -- I think that's a fair question whether or not it should be flat with the prior year, we do have the investment in Avaira that's going on. Quite frankly we took a position where we didn't think we had enough change to want to change our guidance every quarter.

So we are kind of sticking with the range if the range a little broader than it should be now, you could argue we could have tightened it a bit. I think those two factors is number one the Avaira launch and number two is the fact that we just didn't change the range.

Is the Avaira launch, just the SG&A cost of launching the product or you mean just because you are not calling out the cost of good sales or both?

That's a good question. The Avaira launch start up cost, we made a decision not to flush that in to the world of the callouts. Is their start up cost flowing through the P&L, yes there is, particularly as it relates to the as we start hitting the P&L in the first six months with the Puerto Rico lines equipment. So that is a factor that will put some burden on gross margins not being called out.

Okay. The other one was that I guess the range on GAAP is $0.40, or $0.45, you got $0.25 on gone nap, I guess certainly a three million on the put, amortization expense explains some of it but another seven million there. Given how far we are through the year and fall off the cliff after September, I am just wondering what that delta is, where the seven million could fall or so in call outs?

Well in terms of where it's going to fall, it's going to fall heavily in the third quarter.

I understand that. I meant you got a wider range for your GAAP and non-GAAP, right, it's pretty much both in Q3 I'm wondering what's accounting for the ten million in sort of delta net income, three could be the potentially for the convertible put. I'm wondering what the other seven million delta could be? What sort of plays in to the wider range?

Well, maybe I'm not understanding but a lot of that start up cost from a manufacturing point of view. Not the put.

Peter, it's Al, we did take a look at altering guidance just to bring them together, but rather than change guidance every single quarter, we just held it.

I got you. Then, lastly I guess just on the Toric that you have going out there. Are the monthly and the two week going to be on the same platform, are they both at the sort of the Biofinity type platforms on the UK? Can you explain it a little bit?

Biofinity will go first. that goes in to production this quarter, and will be launched in the calendar year, first quarter next year, '09. Towards the end of calendar year '09, will be an Avaira platform, Avaira product.

Okay, I got you. So the same DK's on the two, that sort of --

Right. The big difference is the Biofinity product can be produced on the existing Biofinity lines, the Avaira Toric will not be on like a Gen II, the one we have in Puerto Rico.

Okay. That answered it. Perfect. Thanks a lot guys.

Another question?

Your next question will come from the line Jeff Johnson from Robert Baird.

Bob, it looks to me adjusted CVI gross margin this quarter hit a five year low. I understand your comments of gross margin improvements can be seen with dailies and Biofinity over the next few quarters, but I also, at least in my model, I have to factor in start up Avaira costs, potentially start up Torics si-hy costs, some private label gross margin drags on the Biofinity.

Or I am sorry on the Avaira, so I guess my question boils down to where do you see gross margin on a CVI basis going on an adjusted basis over the next six to 18 months? Follow up to that, Gene you, you noted a low 60% gross margin for CVI this year, I thought prior guidance was a little more defined at 61 to 63%. Should we assume low 60% I'm sorry could mean below the end of that 61 to 63% for this year and maybe into 2009?

61 to 63 is still accurate.

Okay. Thank you.

Jeff, the only thing I would add to that is why we are hedging on the wording 61 to 63 low 60s, is given the robustness of our expansion of the one day to 62% growth in one day for the quarter was eye popping. Obviously as if we aggressively shift in to that modality, while we are catching up with the silicone hydrogels pulling it at the other way, that could keep us at the low end of the range, of that 61 to 63.

Okay and the low end of that range Bob, not just over the balance of this year but probably as we go through '09 as well?

I would say as we go through '09, I think what is going to happen is you're going to start seeing the silicon hydrogels pulling the other way. And then there is on going costs reductions that are occurring.

But there is kind of a race between the two horses and the more the one day modality wins out, and I'm not saying it's going to continue to win out at that rate, 62% is spectacular if you will. And we are not projecting that type of growth rate, but that's the one that causes me to hesitate.

Which is it? Private label, if we got big into private label, that would push the silicone hydrogels from the upper 60s, low 70s in to the low probably the low to mid-60s, so that would have a mix impact but it would be favorable on the operating cost line. We are not going to be the one that goes out and does the leg work like VisCon may do or someone that does a lot of commercial work undoubtedly that would be the private label company.

Alright fair enough. Just two follow ups on the last question, Peter kind of interrupted your last answer there. I was interested in what you were saying on the Avaira Toric, will that not go on the Gen II line? Can you just maybe finish that a little more clearly. And then I have one more after that, but go ahead please.

The Avaira Toric will go on existing type equipment we have in house, modified for that product, but not on a Gen II type. It will not on a high volume, low volume high SKU production level.

Okay, fair enough. Just your comment on the Wal-Mart agreement, and that you are shipping to both maybe retail locations and private practitioner.

Some of the channel feed back we are hearing is that at least a good number of private practitioners or other ways of getting lenses on the private practitioner side are being told they may not have access to Avaira for the next three months or so as it is being diverted to Wal-Mart.

Does that have a near term margin impact, I am assuming? Can you clarify that combined with your comments that private practitioners are still getting the Avaira product?

Well, everyone is on allocation, including the retail or the chains. So each sales rep has goat an allotment to go out to the market with. We are not going to expand beyond our reach that we are capable of supporting. We are not diverting it all from one channel or the other. Whoever we sign up as a customer, we will support that customer.

When I talked about holding back inventory, even if we are making more currently it doesn't mean, it just means until we have enough buffer stock to expand beyond our first pass intentions of who gets it that we won't go beyond it. Because you are right, there are accounts told you have to wait, because each there is only so many units to go around at this junction.

Fair enough, thanks, Bob.

Alright, we are just lightly over an hour, we are going to go ahead and wrap it up. Thank you to everyone who called in, talk to you next quarter.

Thank you.

Thank you.

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect, have a wonderful day.