愛德華生命科學 (EW) 2005 Q3 法說會逐字稿

Greetings, ladies and gentlemen, and welcome to the Edwards Lifesciences third-quarter 2005 earnings conference call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. (OPERATOR INSTRUCTIONS). As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Mr. David Erickson, Vice President, Investor Relations. Thank you. Mr. Erickson, you may begin.

Welcome and thank you for joining us today. At the close of regular trading today, we released our third-quarter 2005 financial results. And during our call today, we'll focus our prepared remarks on the information that complements the material included in the press release and the financial schedule, and then allocate the remaining time for Q&A. Our presenters on today's call are Mike Mussallem, Chairman and CEO, and Corinne Lyle, CFO.

Before I turn the call over to Mike, I would like to remind you that during today's call, we will be making forward-looking statements that are based on estimates, assumptions, and projections. Although we believe them to be reasonable, these statements involve risks and uncertainties that could cause actual results or experiences to differ from the forward-looking statements. The statements include, but aren't limited to our ability to achieve fourth-quarter and full-year sales targets; our 2005 goals for gross profit margin, net income, earnings per share, and free cash flow; the continued success of recently introduced heart valve products and the timely launch of new products; the market expanding opportunity for FloTrac; the success of LifeStent products and the RESILIENT clinical study; the ability to resume our U.S. clinical feasibility trial for the percutaneous aortic valve by the end of the year; the transformational growth opportunity of percutaneous valve technologies; and the impact on our results of option expensing, foreign exchange, and special items. Additional information concerning factors that could cause actual results to materially differ from those in the forward-looking statements may be found in our SEC filings which are available on our website at Edwards.com.

With that, I'll turn the call over to Mike Mussallem. Mike?

Thanks, David. We're pleased to share with you our strong third-quarter results driven by another quarter of double-digit heart valve sales growth, as well as very good performance in our critical care franchise. Underlying sales growth this quarter was 8.2%, reflecting solid performance in all regions, with particular strength in the U.S. Total reported sales growth was 7.2%, which included the divestiture of certain low margin businesses in Japan earlier this year. Year to date, our underlying sales growth was 8.7%.

I'll begin with a review of our product line sales and an update of our percutaneous valve programs, and then Corinne Lyle will discuss the rest of this quarter's results. Sales of heart valve therapy products continued to be strong this quarter, growing 11.8%. Our innovative tissue valve and repair products continue to drive market share gains again this quarter.

Looking at our regional performance, in the U.S., heart valve therapy sales grew 15% due to the continuing penetration of Magna and ThermaFix. Increased competition in certain lower-priced markets reduced sales to single-digit growth in Europe this quarter. In Japan, another quarter of share grains and midteens growth was driven by strong valve sales, including our newest product offering, the PrimaPlus stentless valve.

Global sales of our market-leading PERIMOUNT products continued to grow at a double-digit pace this quarter, as more surgeons recognized the superior attributes of our pericardial tissue valves. Sales of porcine valves were only $4 million this quarter and continued to decline at a steady pace. The Magna aortic valve, which is already the leading U.S. tissue valve, is approaching 50% of our global aortic sales. The exceptional features and performance of Magna and the Magna with ThermaFix are continuing to command a significant premium price.

The PERIMOUNT Theon mitral valve system, which was launched in the U.S. during the second quarter, continues to be well-received by clinicians. Theon's sales continue to increase this quarter, and were a notable contributor to heart valve therapy growth.

Last month, we introduced the latest edition of our Magna line of premium heart valve products -- our new Magna mitral valve in Europe. We expect to launch this product in the U.S. following FDA approval, which could be as early as the first half of 2006. Unlike most competitive mitral tissue valves, which are upside down aortic porcine valves, Magna mitral is designed specifically for the requirements of the mitral position and includes a unique saddle shape that conforms to the native anatomy. This valve has the lowest profile of any tissue valve, which makes it easier to implant. Built on our proven durability, the Magna mitral incorporates ThermaFix, and is premium priced.

Heart valve repair products grew in the midteens this quarter, driven by the continuing adoption of our newest indication-specific products, including MC3, IMR, and the recently launched GeoForm rings. The preliminary data presented at EACTS -- in that preliminary data, GeoForm was shown to successfully treat mitral regurgitation and improve the function of the left ventricle. We believe that this new ring is an important addition to our extensive portfolio of disease-specific repair therapies, and will further extend our leadership in this field.

Turning to our critical care franchise, reported sales grew 8.5% in the quarter. Growth was primarily due to market share gains of pressure monitoring products and sales growth in advanced technology catheters and hemofiltration products. Partially offsetting the growth was the ongoing decline in base catheter sales.

This quarter, we continued the introduction of our new FloTrac minimally invasive monitoring system, and clinical feedback on this innovative technology is encouraging. As expected, sales of FloTrac were a modest contributor to this quarter's growth as we continue to conduct product evaluations in hospitals around the globe. We are enthusiastic about our innovative FloTrac technology which represents a market expanding opportunity.

Reported sales in cardiac surgery systems were essentially unchanged compared to the same quarter last year. As expected, the unusually high TMR sales in last year's third quarter created a difficult year-over-year comparison. Offsetting this effect was the continued strength of cannulae sales, resulting from both market share gains and a shift to specialty products.

Separately, as you will remember, we divested our Japan perfusion product business in January of this year, and we expect residual sales through the second quarter of 2006. In the quarter, we sold approximately $3 million of cardiopulmonary inventory to the buyer, which lifted this quarter's sales but is not included in the underlying growth rate.

During the third quarter, we continued expanding the release of our Optiwave cardiac ablation system as we collect further input on clinician preferences and system performance. Our experience to date has reinforced our belief that Optiwave's unique energy -- laser energy source offers excellent clinical performance and is well-suited for minimally invasive procedures.

Sales of vascular products grew 9.1% on a reported basis. On an underlying basis, excluding the impact of foreign exchange, vascular sales increased 7.6%. Third-quarter sales of our LifeStent products were below our expectations, and only slightly higher than last quarter's $2 million. We now expect fourth-quarter sales of $3 million, resulting in about $8 million for the full year. Preliminarily, we expect peripheral stent sales to double in 2006. Additionally, we're still planning to introduce longer stent sizes and the FlexStar self-expanding delivery system in the first half of 2006.

We continue to believe that LifeStent provides the best technology solution for the challenging clinical problem of SFA stenting. Last week at the TCT, Dr. John Laird reported on stent fractures and restenosis rates in the first 20 patients of the RESILIENT trial. This encouraging data, although preliminary, demonstrated low restenosis rates and excellent durability at six months. Positive clinical trials would position us to receive an SFA indication in the U.S. by the end of 2007. And in our angiogenesis initiative, which uses our licensed proprietary gene regulation technology, clinical trials are continuing at the NIH and Duke University.

Other distributed product sales for the quarter were $6.9 million compared to $10 million in the same period last year. Excluding the impact of discontinued pacemaker business in Japan, sales were essentially unchanged.

In summary, we're very pleased with our underlying year-to-date sales growth of 8.7%, which is significantly higher than last year's 5.3%. Looking forward, we expect fourth-quarter sales to be approximately $250 million at current exchange rates. This assumption includes the expectation that foreign exchange will have about a $5 million unfavorable impact on reported fourth-quarter sales versus the prior year. We expect an underlying growth rate of approximately 10% for the fourth quarter, and full-year sales of around $1 billion.

For heart valve therapy, we are expecting a sequentially higher underlying growth rate in the fourth quarter, resulting in annual sales of 470 to $475 million. For critical care, we expect annual sales of 320 to $325 million. For cardiac surgery systems, we expect fourth-quarter sales of approximately $25 million. For vascular products, we project fourth-quarter sales of approximately $18 million. And for other distributed products, we expect fourth-quarter sales of 7 to $8 million.

Now, I would like to provide an update on our percutaneous valve programs. We continue to learn as we further improved the deliverability, durability, and performance of these technologies. Above all, we remain very enthusiastic about the potential for these products to treat the many patients with limited treatment options today.

In our percutaneous aortic valve replacement program, we've had productive ongoing dialogue with the FDA, and we remain confident that we will receive approval to resume our U.S. clinical feasibility trial by the end of the year. This FDA submission includes our new custom retrograde delivery system and 26-millimeter valve.

During the third-quarter, Dr. John Webb continued to perform valve replacement cases in Canada using the retrograde approach and 26-millimeter valve. We are strongly encouraged by these results. At TCT, Dr. Webb reported on his first 18 patients. And the data showed continuing success in high-risk surgical population.

In pursuit of our CE mark, we have completed multiple filings in both Europe and Canada to include the larger valve and retrograde system into the REVIVE trial. We expect to incorporate these enhanced devices in our clinical study at a number of sites before the end of this year. Also, this quarter, we completed the transition of valve manufacturing capability from the former PVT supplier to Edwards. Additionally, we received FDA approval for Edwards as the manufacturing site, and are currently percutaneous valves in Irvine.

In our previous guidance for our edge-to-edge mitral repair program, we indicated that our goal was to complete feasibility studies by the end of this year. In our early patient experience, we identified two important enhancements that we believe will enable us to treat a broader group of patients and achieve improved efficacy. These enhancements include the ability to deploy multiple stitches during the procedure and device modifications to accommodate thicker mitral leaflets. We expect these enhancements to be in place by the end of this year, and following successful clinical trials, we will finalize our plans for the pivotal trials.

And in our coronary sinus program, we received regulatory approval to resume feasibility studies in Canada and Europe with an enhanced design, and have already treated our first patients. We now expect the feasibility study to extend into next year. We continue to be enthusiastic about our coronary sinus technology, because in early clinical studies, we have seen a significant clinical effect in a relatively simple procedure. The straightforward nature of this interventional procedure could facilitate broader adoption by the clinical community, making this therapy more accessible to the large number of patients with mitral regurgitation.

In summary, with our broad portfolio of programs, technologies, and intellectual property, Edwards is ideally positioned to capitalize on the large percutaneous heart valve market opportunity. And as the global leader in heart valve therapies, we remain committed to maintaining our leadership in the development of interventional therapies for treating valvular heart disease.

Before I turn the call over to Corinne, I'd like to remind you about the Edwards Lifesciences Fund that we established earlier this year. As we previously described, the purpose of this fund is to provide philanthropic support, primarily for cardiovascular-related charitable causes. This quarter, we were pleased to contribute an additional $15 million, which completes our goal in establishing this endowment.

Now, I'll turn the call over to Corinne.

Thank you, Mike. Once again, this quarter, our sales growth drove strong operating performance, highlighted by continued gross profit margin improvement and substantial free cash flow. Additionally this quarter, adjusted earnings per diluted share grew 21.1% to $0.46 per share, compared to $0.38 per share for the same period last year.

The strength of our heart valve franchise continued to drive improvement of our gross profit margin, which was 62.3% in the third quarter. We expect gross margin to be sequentially higher in the fourth quarter, and slightly more than 62% for the full year.

Third-quarter SG&A expenses were 35.7% of sales, or $85.9 million, compared to 35.5% of sales in the year-ago period. Generally in the third quarter, the SG&A ratio is higher than average due to the seasonality of our sales. We expect SG&A as a percentage of sales for all of 2005 to be slightly below the current year-to-date level of 35%.

In the third quarter, we increased R&D investments by nearly 10% over last year to $24 million. This increase was attributed primarily to the investments in our percutaneous valve program. We continue to expect R&D investments to be approximately 10% of sales for the full year.

Interest expense of $2.2 million for the third quarter declined compared to the same quarter last year. We estimate net interest expense for 2005 to now be approximately $10 million.

On a reported basis, our third-quarter tax rate was impacted by special items, the largest of which was a $15.8 million tax expense for foreign earnings repatriation. We mentioned last quarter that our tax rate, excluding special items, would be slightly lower this period, and based on our current outlook for profit mix by tax jurisdiction, we would expect the tax rate for the fourth quarter and the full year to be slightly less than 25%.

Under the provisions of the American Jobs Creation Act, we expect to repatriate approximately $260 million this year, resulting in an incremental tax expense this quarter of $15.8 million. Proceeds from the repatriation will be reinvested in our domestic operations, consistent with the provisions of the Act.

In addition to the tax expense associated with repatriation, this quarter's reported results include the following special items, which are outlined in the supplemental schedules found in the press release. These include the pre-tax contribution to the charitable fund of $15 million, a write-down of an investment in an unconsolidated affiliate of $8.9 million, and a pre-tax gain from a favorable intellectual property litigation of $2.5 million. Also during the quarter we recorded a $1.2 million pre-tax charge for in-process R&D related to a technology acquisition.

For the quarter, restricted stock expense was less than $1 million. Recall that last quarter, we broadened the use of restricted stock in order to moderate the dilution associated with employee stock ownership, an important part of Edwards' ownership culture. For the fourth quarter, we expect restricted stock expense to be at similar levels, for an annual total of less than $2 million after tax, which is included in our guidance.

And for 2006, we expected to begin expensing stock options as required by the revised FAS 123 accounting standard. Based on updated assumptions, which include future option grants and ongoing costs associated with restricted shares, we expect this expense to increase by about 17 to $18 million next year.

When compared to the same quarter last year, third-quarter reported sales benefited from FX rates by only $1.5 million. However, as anticipated, the average FX rates for the third-quarter were about 5% less favorable than in the second quarter. And given the substantial size of our international businesses and current FX rates, we continue to estimate that fourth-quarter sales will be negatively impacted by about $5 million compared to a year ago. This assumption is included in our current guidance.

During the third quarter, we repurchased approximately 460,000 shares of common stock for approximately $20 million under our existing share repurchase program. Year-to-date, we have repurchased approximately 830,000 shares for about $36 million. Last month, our Board of Directors authorized a new share repurchase program for an additional 2 million shares of outstanding common stock. The primary goal of our share repurchase program is to offset the dilution of shares issued under our employee ownership program.

Long-term debt at September 30th was $251.5 million, resulting in a debt to cap ratio of 27.6%. Including receivables and our asset-backed securitization program, days sales outstanding for the quarter were 71.5 days. Inventories increased to $135.5 million from last quarter.

Free cash flow generated during the quarter was $43.2 million, which we define as cash flow from operating activities of $39 million, minus CapEx of $10.8 million, plus $15 million related to the charitable fund contribution. Free cash flow generated year to date was $104 million, calculated as cash flow from operating activities of $93 million, minus CapEx of $27 million, plus special items totaling 38 million. For the full year, we expect to substantially exceed our free cash flow goal of 115 to $125 million.

And with that, I'll turn it back over to Mike.

Thanks, Corinne. Based on our strong year-to-date performance, we expected to meet or exceed all of our financial goals this year. For 2005, we now expect total sales of approximately $1 billion; gross profit margin to be slightly above 62% of sales; net income growth of more than 18% excluding the impact of special items; and free cash flow over of substantially more than $125 million. And at current foreign exchange levels and excluding special items, we are comfortable with the First Call mean EPS estimate for both the fourth quarter and the full year 2005.

In conclusion, the sales growth in our leading franchises demonstrates the underlying strength of Edwards' base businesses and, together with our near-term initiatives, moves us closer to achieving consistent double-digit sales growth. Additionally, the potential of our innovative percutaneous valve technologies to address the needs of a large, untreated patient population suffering from heart valve disease represents a truly transformational growth opportunity for Edwards Lifesciences.

We look forward to providing additional details about our growth strategy and 2006 outlook at our upcoming investor conference next month. This event will be held at our corporate headquarters here in Irvine on November 29th and 30th. For more information, please visit the IR section of our website or contact the Investor Relations team.

With that, Corinne and I are ready to answer your questions. And in addition, we have Stu Foster and Stan Rowe with us here as well.

(OPERATOR INSTRUCTIONS). Tim Nelson, Piper Jaffray.

Nice quarter. Mike, can you comment some more on the Magna mitral valve you plan to launch in the U.S.? That was kind of a surprise when you announced that. How was that different from the Theon, and what kind of price bump can you expect from that? What's sort of the size of the opportunity?

Yes, were really looking forward to the introduction of the Magna mitral valve. You know that in the mitral position, today, there's still an awful lot of mechanical valves. And porcine valves are used. And as I mentioned in my comments, the porcine valves are really aortic valves that have been flipped upside-down.

And although we have had a pericardial valve available in the mitral position, it hasn't been that easy for people to implant. And what the new Magna mitral brings is a valve that ought to have all of the great performance that goes along with the Magna product line, plus a much easier valve to implant. And so we're pretty pleased that we think That we're going to have this valve available for launch in the first half of 2006. And we think it's going to be another driver of our growth going forward. It just gives us a lot of confidence that we'll once again be able to drive our heart valve growth in excess of 10% in 2006.

Great. Will that be priced comparably to the aortic Magna?

This will have -- yes, this will be premium priced. And so it will be at approximately a 20% premium compared to our PERIMOUNT product line, and at even a premium over what we have today. So it's sort of like Magna with ThermaFix.

You mentioned that Magna itself was 50% of aortic sales on the call --

That's correct.

Was that U.S. or worldwide? And what does that drive your overall ASP to -- or range of prices?

That was a worldwide number, Tim. And as you can imagine, most of that is U.S.-related. I don't know that we have shared ASPs on that product line. But it has been tracking at a 20% premium to PERIMOUNT.

Okay. One final question on valves. In your last comments, you mentioned the opportunity you highlighted at the postgraduate course in terms of trying to reach out to untreated patients. Can you describe what kind of investments you plan to make to capitalize on that opportunity?

Yes, you know, this is one that we'll talk more about at the investor conference, Tim. But we have this fundamental belief that there are a lot of patients with heart valve disease that today don't see surgery. They get blocked somewhere. They get blocked by their GP. They get blocked at the cardiologist. They get blocked a number of places in the system. And we're going to do some homework here to both expose that and try and address those issues. And we'll be prepared to talk about that more in November.

Katherine Martinelli, Merrill Lynch.

Mike, I was wondering if you could just talk a little bit more with respect to what you said was going on in Europe on the valve side of the business. Did that just emerge in this quarter? Is it expected to continue going forward? Any additional details would be great.

Yes, as a matter of fact, that did just emerge this quarter, Katherine. Europe has traditionally clocked along at a very consistent -- around a 10% growth rate. And so this was lower than it has been.

And what we saw was some competitive efforts in some very low-priced geographies. And as you know, our strategy is premium products. And we do command a premium price for those products. And we exercise discipline in that regard.

Going forward, we don't expect this to be a persistent problem. We expect the sales to rebound to more normal levels starting in the fourth quarter and certainly in 2006.

And you expect that because you've seen -- help me understand -- they stopped doing the price cutting? Have you guys gotten more responsive to it --?

Well, there's two things there. One is that -- with our broad portfolio that includes valves -- that includes porcine valves all the way up to our premium products, we may be able to respond to some of the most price-sensitive customers with our older products -- the pig valves. But probably more importantly, we expect to have reimbursement in place for our premium products going forward.

Okay. And then, just maybe if you could talk a little bit about -- on the stent side of the business, you mentioned that it came in below expectations. What has been the biggest issue? Have you not built out the sales force? Has the competition been tougher than you thought? And are you confident in terms of being able to double that revenue base.

You know what, since we have Stu Foster with us, why don't I let Stu take a crack at that, and I can fill in?

Sure. We're past our manufacturing and supply issues. So honestly, we thought we would do better in the third quarter. And we didn't.

But I'll tell you, we are very optimistic about the future with LifeStent. We think it is exactly the right stent and the right solution for the SFA, which remains a big unmet clinical need. And this has been confirmed both by our in-house testing that we have been able to do to replicate some of the forces that are seen in the SFA, and even more importantly, by the preliminary results in the clinical trial, RESILIENT, where we were able to get the first six months' data on the Phase I patients in that trial. And it showed just great durability, and at a very good restenosis rate.

So the properties of the stent are such that we think it will be a market leader in the SFA. Now, when you look at why we might not have done as well in the third quarter as we had hope, we're really focused on a couple of things. The properties of the stent that make it so good in the SFA also make it a difficult stent to deliver. And we have to address that very aggressively, and we are. And we'd hope that with our next-generation delivery system, we will overcome those issues. And that's part of the issue.

And the other part of the issue is we just haven't gotten the sales productivity out of our sales channel that we had hoped for. And we are very focused on that. And right now, we're sitting with about 20 -- mid-20s sales reps in the U.S. And honestly, we're going to hold at that number for a while, and we're going to focus on making those folks more productive while we achieve some of the milestones we need to achieve with regard to our new product launches, and get some more data on the RESILIENT trial that we can use to help motivate the buyers here.

So we remain very hopeful for the future, very confident about being able to double sales next year, and believe that the preliminary results from RESILIENT really fuel that optimism.

And I apologize. Can you just remind us what the timing is for the next-gen delivery system?

First half next year.

And then finally, Corinne, the reduction in the tax rate -- should we assume that that sub-25% rate continues going forward?

You're talking about 2006?

Yes.

Yes, it's a little early for us to estimate. But generally, historically, we have been in the 25, 26% range. I wouldn't expected to vary much from that range.

Amit Bhalla, Morgan Stanley.

Thanks for the question. First question is from RESILIENT -- can you give us an update on enrollment -- number of centers that are up and running at this point?

Yes, sure. We've got something between 20 and 25 centers enrolling at this point, including a couple in Europe which are some of our top enrollers. We are well over halfway through the trial. It's gone slower than we thought. It's a tough trial to run. Other people who have tried to run stenting trials versus PTA have had issues.

But we're making progress. We actually had our best enrollment month in September. So we're going to get there. We're probably not going to get there by the end of the year. But we should be able to get there relatively early next year.

Okay. Then the other question is on the retrograde approach for the aortic valve. Can you just give us a sense of your interactions with the FDA at this point? I know you said that you are confident that you will get it restarted by the end of the year, but just a little more color on your interactions with the agency?

Yes, I think we've just continued to have good discussions with them about the modifications that we filed. And we remain very confident that we're going to be able to gain an approval and move forward with this trial in the very near future.

Dhulsini De Zoysa, SG Cowen.

I was wondering if I could just dig a little deeper on the LifeStent issue and, specifically, the RESILIENT trial. The feedback we've gotten from Duke and a few other centers has been really very encouraging. I'm wondering if you'd remind me what the follow-up duration is? The one bit of feedback we've gotten is that we'd like to -- that clinicians would like to see longer-term results beyond six months, particularly for the SFA. So could you just start by reminding me what that follow-up is?

Sure. The primary endpoint is probably going to be a twelve-month --- and I say "probably" because this is still under some discussion. But it's most likely going to be a twelve-month endpoint. We will follow these patients, though, for two and three years. So we would have data over that period of time.

So if you're looking for when we might see more data, the Phase I patients, which is a small cohort, only 20 patients -- but it could be a good leading indicator. We released those six-month data at the recent VIVA and TCT. And for the spring meetings next year, we should have twelve-month data on at least that small group. In terms of the Phase II patients, we're still looking at finishing this trial with one-year follow-up in '07, and getting an approval in late '07.

Okay. So we should see twelve-month, say, at PCR?

Might be. I don't know which meeting it's going to be. But that would be twelve-month data on only -- on the Phase I patients.

Great. And then if you could just expand -- Mike, your comments about the edge-to-edge feasibility study -- could you give us an idea of what the enhancements mean for the timeline for moving to pivotal?

The enhancements that we talked about were really two. One is the ability to do multiple stitches, which we think is important to enhance the performance of this repair. And the other is to modify the device so that we can grab thicker leaflets. And in some of our early work, what we found is being able to capture thick leaflets really expands the patient population.

So what this means is we're planning on having both of these available for feasibility trials, yes, in the fourth quarter. And if those feasibility trials go quickly and they go well, then we open up our pivotal trial and go after it. And if we decide that we still need some more modifications, then we would do that. But that's sort of the implication, if that's helpful.

Okay. So should I infer from that that the enhancements are in place -- you've developed them; they're ready to go?

That's what you should infer.

Mark Landy, Susquehanna Financial Group.

Corinne, just -- I might have missed something, and if I did, I apologize. But this quarter's tax rate at around 23.5% -- did that include a onetime reversal or something to have brought it that low?

No, we indicated that in last quarter's earnings call that we did expect the tax rate to come down this quarter -- to come to an average for the full year of a little less than 25%. And that's really a function of where the profitability lies in the various tax jurisdictions. So the reason it was lower this quarter was to get us to the average of a little less than 25% for the full year.

Okay, so then obviously, it looks like Q4 will probably be in line with the full-year rate. Is that correct?

Exactly.

Why is it not possible to bring all your jurisdictions down to similar rates if you have this benefit for a couple of areas?

It's really -- it is based on the product mix, and where the profitability comes from the various areas that we do business -- in Europe, for example, in the Swiss jurisdictions. And so it's a function of just where the business comes from.

Is it possible that there are any other areas that you are currently working on that could impact the tax rate?

Well, we're always exploring ways that we can keep our tax rate low. And it is pretty low relative to other companies. So I think we'll continue to be very active in managing our tax rate.

I think that's a fair comment. And just a question maybe for Mike. You know, Mike, we're glad to see that you have filed the 26-millimeter addition to the U.S. trial. Originally, you suggested that you wouldn't be doing this, and that you were just going to file the new retrograde approach. Could we infer that the discussions with the FDA are going better than you had expected, now that you've decided to include this? Because it seems like even now, including the 26-millimeter valve, you're on time with your original expectations.

I don't recall providing any guidance about the 26-millimeter valve in this trial. I think mostly what we had talked about is the fact that we were looking forward to adding the retrograde system before we started again.

But based on the very positive experience we've had with the 26-millimeter in Canada and the fact that we had some great preclinical data that had already been collected, we simply made the submission at the same time. And I guess overall, I would just summarize by saying, Mark, that we are having productive discussions with the FDA, and we continue to be confident that we're going to be able to have approval to restart this feasibility trial before the end of the year.

Thanks, guys. Great quarter, though.

Mike Weinstein, J.P. Morgan.

We just have a couple of follow-ups. And I think most everything was covered, but I did have just maybe one for Stan. I do want to maybe get you to comment on a pipeline for the aortic product and when we might see not only changes to the delivery system, but maybe changes to the device -- the implant design itself.

And then for Stu, could you just comment on the appetite among the clinicians for that of (ph) bare-metal stent? Is that part of your central challenge, that they're kind of tired of the next bare-metal stent, and it's just tough getting -- you have enough bodies in terms of the sales force, but it's tough for them to get much presence because of that?

Thanks, Mike. Why don't I start out with this. I'll let Stan complete the answer here are on the percutaneous aortic valve, and then Stu will jump in on the stent.

On the percutaneous aortic program, as you might imagine, we are already pursuing next-generation design. So clearly, that's something that exists in R&D. And we'll bring all of Edwards' expertise in making valve and valve durability and delivery systems to bear on this.

Having said that, we feel pretty good about what we have and we're anxious to get back into feasibility trials with the designs that we have today. And so we're really not unveiling any sort of next generations, Michael. We're making very good progress on that.

Yes, I would add that the valve continues to work remarkably well. Everyone is amazed at its durability and how it performs. And what we've done -- and, I think, effectively -- is to learn and adapted by bringing in both the 26-millimeter and the retrograde delivery systems in pretty short order. And we expect that to improve the durability of these -- I'm sorry, the range of patients that we're treating and the ease-of-use. And by the way, we got -- we're out two years with the 23-millimeter valve already, and those patients looks terrific. This is, I think, again, demonstration of the kind of leadership that we are providing in this vital area.

Yes, Mike, on your bare-metal stent question, I want to reinforce the notion that we're not -- this is not a coronary application. If you're talking about bare-metal stents in coronaries, that's one thing.

But the SFA is a special challenge, right? Stenting in and of itself isn't that well accepted in the SFA yet, number one, and number two, the metal stents that have been used have been less than optimal in terms of their durability. And we have all heard about fracture rates in the SFA.

So I think there's plenty of room for unique design to stent an SFA application that hasn't been successfully met in the past, and we think we have the right stent to do that. And at least on a preliminary basis, our clinical data reinforces that. And there's a lot of spotlight on the SFA right now. And people are looking for ways -- and we all know what's going on with FoxHollow in terms of treating that vessel. And I think the right stent that has durability and a great restenosis rate, albeit a bare-metal stent, might be the right solution. There is absolutely no evidence to date -- in fact, there is negative evidence that a drug-eluting stent is really even going to be applicable in that region.

Sure, but how do you overcome the traction issue? You get a better delivery system, but --

Well, Mike, I think a lot rides on our clinical results from RESILIENT. Remember, we're running a trial that not anyone else is running right now. And I think the fact that there is data out there on other stents in terms of their lack of durability in the SFA -- and if we can show with RESILIENT that we do have a durable stent, that we do have very good restenosis rates, I think that's a big edge.

One of the things -- there is a notion out there that's beginning to be more prevalent, Mike, is that when stents fracture, that that contributes to a restenosis rates. And we know that stents are fractured at a pretty high rate in the SFA. And we looked at this as a great opportunity to distinguish ourselves. We know what we see in the lab. And we're just at the front end of seeing this in the clinical trial, and we can't wait to get into those results.

Glen Novarro, Banc of America.

(technical difficulty) on the line for Glen Novarro. I've yet another question about the LifeStent platform. You've mentioned today that there are some concerns about the stiffness of the stent. And I just want to make sure I understand -- is this all sort of the lighter-than-expected sales? Is this all related to sort of product-specific features? Or is there any aspect that could be related to the fact that you're only selling a stent as opposed to a complete product offering in that space? Or just frankly, is the whole market not growing as fast as you would like?

Well, I'm a little confused about the stiffness comment. I think I said -- first of all, our stent actually is the most flexible stent. Where we've had a few issues is in delivering the stent because of its flexibility. And so we're iterating right now on the delivery system. So that sort of addresses your first comment.

In terms of the market itself, I think -- the SFA market is growing. It's a vibrant market. There's a lot of attention being paid to the SFA, because it's a difficult vessel to treat, and there hasn't been a great technology solution for it. So we feel that opportunity, and very much of a growing market, especially with good clinical results that show that the durability of the stent is --

Yes, maybe just one other clarifying comment. We do have a full line of stents, balloon-expandable and self-expanding stents. Where we expect to really distinguish ourselves is in the SFA. And that's why we're looking forward to having more of that resilient data available.

Alex Arrow, Lazard Capital Markets.

Just since no one has asked about the Swan-Ganz platform, would you mind giving us an update on how the conversion is going between the base model and the advanced model, and how the dynamics work between that conversion affecting your gross margins on Swan-Ganz, and what that means for the Swan-Ganz gross rate once the conversion is complete, and therefore, you just have the advanced model dictating future growth?

Yes, Alex. Maybe I can summarize it this way. The overall product line is made up of two things. And I'll simplify it this way to say about one-third of the product line is pressure monitoring, and the other two-thirds are the broad family of Swan-Ganz, or hemodynamic monitoring catheters. So the base of the pressure monitoring business has been growing nicely as we mentioned, gaining market share. And that's been a source of growth for the overall critical care business.

Going on -- also within that same business is the switch of products from base catheters to advanced catheters, which you know carry a much higher price and a higher margin that's associated with that. So traditionally, our critical care business has grown in the, say, 2 to 5% range. At this point, it's growing at the high end of that. Now, FloTrac we think is simply going to add to that growth rate.

Separate from that, we have had profit enhancement programs particularly associated with the upgrade to advanced. And so the critical care product line in itself continues to have gross margin expansion, something in the neighborhood of 50 to 100 basis points per year as well. And we think FloTrac as that adoption continues just enhances that.

Okay, the nice 50 to 100 basis point expansion -- at some point, we would see the conversion mostly complete, and therefore that would taper off. How many years away would you think we are from that point?

Well, I don't know, Alex, if that really does taper off, because what you start seeing is the FloTrac effect kick in as FloTrac takes off. It really has not had any meaningful impact on our sales in 2005. That will begin in 2006 and beyond. And then FloTrac by its nature -- we probably haven't talked about this much -- is higher margin than the rest of the critical care product line. And so I would expect gross profit margin expansion to continue in critical care well into the foreseeable future.

Would you be willing to say roughly what percentage the conversion is at this point? Are we at the point where we are 70% to advanced model versus base model?

No, I don't know the number right offhand, but my estimate is that it's probably 60% advanced, 40% base.

That's by units or dollars?

That's by dollars.

Great. And if I could have one last question -- just, I know you've got a lot of questions already on LifeStent. Maybe something other people haven't quite asked is just the RESILIENT data -- assuming that it will show that you have the greatest durability -- in our way of thinking, it seems like anyone who looks at the stent and just manipulates it in the clinician's own hands would see the flexibility and the durability. It seems like a stretch to think that they're going to have to wait for the RESILIENT data to come to the conclusion that it's the most durable and flexible. And yet, there is still the challenge.

Perhaps it's ev3 or some other new player -- why would there be a waiting game to see the result of RESILIENT, or is it really that they aren't convinced until they see that?

No, I really don't think it has anything to do with competition, Alex. We haven't really seen anything very remarkable from that point of view.

You know, what you get from handling the stent is you do get a great feel for the flexibility. And that always is provocative to people. But flexibility alone is not what influences people. It's this durability. And you can't get that from just handling the stent. Where you get the durability is to actually see in patient data. And that takes some time to generate. So that's why we're pointing to the RESILIENT data as a very important benchmark to demonstrate to people that it is safe to stent the SFA. Right now, there's a broad notion that that's something that you need to be careful with.

(OPERATOR INSTRUCTIONS). Jason Mills, First Albany Capital.

I hopped on late, so I apologize if you answered these, but just two quick ones. With respect to the U.S. growth, which was obviously very strong in the quarter, were you able to break that out vis-a-vis mix and pricing as well as unit growth in the quarter?

And the second one I'll just throw in for Corinne -- gross margins -- once again, very strong. Where can we expect those to go? If we model your growth in heart valves continuing at this 10% plus clip, it becomes a bigger portion of your business, obviously. And that could drive gross margins higher. Is there anything else in there that's augmenting gross margins? You mentioned critical care, but outside of that -- anything augmenting it? Thanks.

Okay Jason, I'll start. In the U.S., it's clearly our new products that are driving growth. Magna continues to excel. Theon continues to be a contributor. And those are premium priced products. The math ends up working out pretty similar to the way that it's worked out in the past, where about a third of the lift has come more from price upgrade, and two-thirds come from volume, come from actual procedural growth. With that, I'll turn it over to Corinne.

Jason, historically, we've had a goal of increasing our gross margin 50 to 100 basis points on a consistent basis and we've been able to do that over the last several years, and actually even exceed that. And as we look forward, we would expect that we would be able to continue that. We'll obviously be able to provide a lot more guidance at our investor conference.

But in general, our fastest-growing businesses are our higher margin businesses. And with the new products that we introduced, those will all be at above corporate average margins. And we also will de-emphasize lower-margin products going forward, and continue to look at opportunities on a much smaller scale than we have historically to get out of businesses that are lower margin.

Roberto Morales, Bear Stearns.

Most of my question have been answered, but Corinne, one follow-up on the options expense side. I'm not sure I understood your comments. Would you mind repeating what you said, please? How should we think about that?

Sure, Roberto. You know, this is the first year that we've incorporated restricted shares into our employee compensation. And as I mentioned, we expect about a little less than $2 million after-tax this year. As we look forward to next year, the option portion of our employee expense will continue to be in the 15 to $16 million range. But the restricted shares expense will probably double from where it is, which means that our option expense will increase -- or our total employee option expense, including restricted shares, will increase by about 17 to $18 million next year.

So if you were to put that on an EPS base -- and I apologize; I don't have my numbers in front of me -- what would that be the impact post options for '06, roughly?

At this point, Roberto -- and I'll apologize for Corinne at this point, I'm going to ask that you not get into reducing this to an EPS basis, because this is one we'd want to do very carefully. And we're going to provide guidance for 2006 in a thorough way in November.

But what we wanted to do is to make sure that you had something for your modeling purposes. And I think this idea that there would be 17, $18 million of additional after-tax expense in 2006 versus 2005, and you can apply -- you can -- (multiple speakers).

Yes, thanks for clarifying. It's after-tax what you're talking about here.

Yes, it is.

Okay, and then just Michael, while I have you there, what are your plans for uses of cash, now that you're planning on repatriating -- I believe I heard 250 million this quarter?

Yes, we have always had the same primary uses of cash, and that hasn't changed. If there are really bright opportunities for us to spend that cash for technology or other opportunities to really drive growth in our selected areas of focus, we would do that first and foremost. And in the absence of that, we would do things like share repurchase and debt paydown.

Charles Chan (ph), Goldman Sachs.

Just two questions. First, could you share your thoughts on what the underlying growth rate was during the quarter for the global tissue heart valve market?

The global tissue heart valve market? I'm not sure that we have a real accurate number on that. I would say in general, we feel that the switch from mechanical to tissue is not only continuing, but may be accelerating. Certainly, we think that it's in this 10% range overall, if that makes sense.

And second question is just another follow-up on LifeStent. If you are now expecting LifeStent to be in the neighborhood of $16 million in 2006, that pretty much comes in below the top end of the 10 to 20 million that you had previously targeted for 2005. And so with LifeStent on track to fall short of expectations, could you tell us how that might impact the outlook for 2006? And should we think that other line items might be able to come in and offset these reduced expectations? Or should we simply just adjust our outlook accordingly?

We really haven't provided a specific outlook for 2006 so far. And we plan to do that in our investor conference in November. We're going to work through an operating plan process which we always do this time of year. And so we'll be well-informed by the time we get to the conference.

By and large, those of you that have been following the Company for awhile know that we put a premium on delivering very solid earnings growth every year, and have worked hard to do that. We don't expect that the changes in the LifeStent projection is going to change our resolve to do that.

Tim Nelson, Piper Jaffray.

Hard to imagine I could find a follow-up question here. But just to follow-up on the tissue/mechanical, could you give us -- with 15% growth in the U.S., could you give us your estimate of what the industry mechanical/tissue mix is now? I'm kind of wondering how much more mechanical business there is to get.

I don't know, Tim. I thought you were going to ask me about repair or something. I'm not sure that I know the industry mechanical/tissue split at this point. I'm sure that with a little bit of homework that we would be able to do it. I'm sure that Anita would be helpful.

I can share some general comments that in general, mechanical is larger as a percent in the mitral position than it is in the aortic position. So in the U.S., I would guess that mechanical is probably in the 20 and 25% range. Globally, it's bigger, more 30 to 35 to 40% range, if that's helpful.

That's helpful. Okay. And then back on critical care and FloTrac, what are the parameters you're evaluating in your marketing trials? And what kind of claims do you hope to make when you actually go to full launch in '06?

Yes, what we're doing on our trials now are a couple of things. First of all, we're validating the accuracy of the system. And what we're trying to do is to do that in very broad groups of patients. As you might imagine, with a product like this one, if you see people that are very, very different, people that are in different kinds of surgeries, and people with very different sort of disease states or even trauma -- and we're trying to validate our performance broadly in very large groups of patients.

We also are in the process of doing economic studies, where we plan to demonstrate the improved economics that goes with knowing your cardiac output, knowing it early, and being able to make better decisions that save the hospital money. And so there's two kinds of studies that are going on. There -- we probably see the results on the patient-focused stuff first and the economic data comes later on -- probably -- we get more that toward the tail end of '06.

Great, thanks.

Okay. Well, thanks, everyone, for your continued interest in Edwards. Corinne, David, and I will welcome any additional questions by telephone. And back to you, David.

Thank you for joining us on today's call. Reconciliations between GAAP and non-GAAP numbers mentioned during this call, which include underlying growth rates and amounts adjusted for special items, are included in today's press release, and can also be found on our website in the Investor Relations sections. If you missed any portion of today's call, a telephonic replay will be available for 72 hours. And to access this, you need to dial 877-660-6853 or 201-612-7415. The account number is 2995. The passcode is 172895. (repeats numbers) Alternatively to a telephonic replay, you can access an audio replay, which will be archived on the investor relations section of our website at Edwards.com. Thank you very much.

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