Hologic Inc (HOLX) 2014 Q3 法說會逐字稿

Good afternoon, everyone, and welcome to Hologic Incorporated third quarter fiscal 2014 earnings call. My name is Jamie and I am your operator for today's call. Today's conference call is being recorded and all lines have been placed on mute.

I would now like to introduce Deborah Gordon, Vice President Investor Relations and Corporate Communications, to begin the call.

Thank you, Jamie. Good afternoon to thank you for joining us for Hologic's third quarter fiscal 2014 earnings call. With me today are Steve McMillan, President and Chief Executive Officer, and Bob McMahon, Chief Financial Officer. Today's call will consist of opening remarks followed by a question and answer session.

The replay of this call will be archived on our website to Wednesday, August 20, and a copy of our third quarter release is available in the investor relations section of our website. Also, in that section is a supplemental third quarter financial presentation related to the comments that will be made during today's opening remarks.

Before we begin, I would like to inform you that certain statements we make during this call may be forward-looking. These statements involve known and unknown risks and uncertainties that may cause actual results to be materially different from any future results implied by such statements. Such factors include those referenced in our safe harbor statement included in our earnings release and in our filings with the SEC.

Also, during this call, we will be discussing certain non-GAAP financial measures. A reconciliation to GAAP can also be found in our third quarter earnings release. I would now like to turn the call over to Steve MacMillan.

Thank you, Deb, and thank you all for joining us today. Before we begin, I am excited to welcome Bob McMahon, our new CFO, to his first Hologic earnings call. As many of you know, Bob joined the Hologic team during the quarter from Johnson & Johnson. Bob's strong operational and leadership skills are already evident, and we know Bob will have a big impact on our performance and direction in the quarters and years ahead.

On today's call, I will, one, review our third quarter results and recent developments. Two, give an update on leadership changes. And, three, discuss key business highlights, particularly the landmark JAMA publication that came out last month.

I would like to begin by providing some context for where Hologic is today. After steep sales and earnings declines early in the year, we had indicated we had hoped to stabilize the business by the end of the year and pave the way for a return to growth in 2015. Our fiscal 2014 results to date now offer a more definitive sign that we have stopped the declines and are returning to growth a little faster than expected.

While the absolute growth rate is not the level we aspire to, this was a second straight quarter of sales growth as our turnaround is clearly taking hold.

The reported overall sales growth was slightly below last quarter's rate, though this quarter was qualitatively stronger as our breast health, molecular diagnostics and even our surgical business all grew. Our higher margin US businesses accelerated and the outlook for our key US breast imaging business strengthened considerably. These results clearly demonstrate improving growth trends, with our key franchises strengthening and our financial outlook improving.

In addition to the results which we will discuss further, we put a completely new leadership team in place during the quarter: a new CFO, new Chief Operating Officer, new head of international, and a new president of breast and skeletal health. All four leaders have outstanding track records at blue-chip companies. I am incredibly energized at what this team will bring to the Company.

We mentioned Eric Compton, our COO, and Claus Egstrand, our head of international, on the last call. I will now touch on the two most recent additions.

Bob, our new CFO, joined us after more than 20 years with Johnson & Johnson, most recently as worldwide vice president of finance and business development for the ortho clinical diagnostics group, bringing with him significant experience in the healthcare industry. While at J&J, Bob held a number of senior financial positions of increasing responsibility and demonstrated strong leadership capabilities. I am fully confident that Bob will bring a new level of leadership to our finance team and to the Company, and I am already seeing it.

Also during the quarter, Pete Valenti joined us as divisional president, breast and skeletal health. Pete has a successful track record of driving strong sales performance throughout his nearly 30-year career with Procter & Gamble, Johnson & Johnson, Covidien, and Bausch & Lomb. Pete will play an important role in building on the strength we are already seeing in our 3-D mammography franchise, where his expertise in marketing will surely be of great value to the Company.

The additions of Bob and Pete round out our new management team, with each executive processing strong leadership skills and experience on a global scale. We now have a strong team in place to instill operational excellence and continue to drive the Company's turnaround as we work towards our goals of delivering sustainable organic growth and maximizing shareholder value.

Now let me briefly review our fiscal third-quarter results that underscore the progress we are making. Revenues were $633 million, up 1% from last year, and represent the second consecutive quarter of growth. In fact, overall revenues grew despite a small international decline of 2%, as we took measures to institute financial discipline throughout our organization which I will expand upon in a moment.

Revenues in the US grew 2%. Globally, three of our four franchises -- breast health, surgical and skeletal -- delivered growth during the quarter. Although modest, we are especially pleased to see surgical return to growth for the first time in many quarters. MyoSure continues to represent a strong growth story, while the NovaSure decline started to slow.

While overall diagnostics experienced a decline, the decline was smaller than what we saw in the first two quarters of the year. In fact, our US diagnostics business improved, primarily as a result of our molecular diagnostics business posting high single-digit growth in the US and low single-digit growth internationally.

Overall, the key contributors to our growth in the quarter were 3-D mammography system sales, service revenues associated with our large and growing installed base of digital mammography systems, strength within our molecular diagnostics business lines, and a resurgence in our surgical franchise.

From a geographic standpoint, virtually all of our growth in the quarter came from the US while international revenues were down. However, it is important to understand that some of the international softness is due to our commitment to break from past habits and exercise pricing discipline throughout the quarter in all geographies. We believe this will yield downstream benefits since there is genuine demand for our products in these markets.

Without a doubt, some of our greatest growth opportunities are in untapped foreign markets and we expect to take advantage of these opportunities as we further establish our global infrastructure.

During the quarter, perhaps the most significant development that will play into our future growth was the publication of the largest clinical study to date, using Hologic's 3-D mammography technology. The study, published in the Journal of the American Medical Association, or JAMA, was conducted at 13 leading academic and clinical sites in the United States and involved more than 450,000 exams.

Among the important findings of the study were, one, a 41% increase in the detection of invasive cancers, those which are most important to find and find early. Two, a 29% increase in detection of all cancers. Three, a 15% reduction in recalls for additional imaging. And, four, no significant change in the detection of ductal carcinoma in situ, or DCIS, which is cancer that is not spread beyond milk duct and, therefore, may not need to be treated as aggressively as invasive breast cancer.

The significance of this study cannot be understated. For the first time, on a large scale basis, we have data clearly demonstrating that our 3-D mammography, and only ours, uniquely increases the detection of invasive breast cancers, which are cancers most important to identify and treat early, while not increasing detection of low-grade cancers that some have suggested are overdiagnosed or overtreated.

These results address the most frequently cited concerns with breast cancer screening and underscore the value of our 3-D technology in addressing these challenges. We believe the JAMA study confirms what several other studies have shown so far, that 3-D mammography facilitates the early detection of invasive cancer, lowers the rate of callbacks with unnecessary testing, and creates meaningful savings to the healthcare system.

With regard to reimbursement, we are awaiting publication of new CPT codes for 3-D mammography and their associated rates this fall. We realize there are a number of moving parts here as the existing key codes for digital are migrated to CPT codes, and of the entire reimbursement framework is reevaluated by CMS. At this point, we will have to see where things fall out, but we are optimistic the final outcome will be helpful to our 3-D commercialization efforts.

Our diagnostics franchise is showing signs of strengthening as we work to return this business to growth. The key driver of that strength is our molecular diagnostics business, where we are having a nice success growing our HPV franchise, ramping up our business at Qwest, and increasing revenue pull-through from Panther placements. Looking ahead, we also see a significant opportunity for accelerating growth in international markets in the years ahead.

Also on the international front, implementation of Grifols' multiyear contract with the Japanese Red Cross should help offset anticipated weakness in US led the nation volumes. Despite the well-known headwinds facing our cytology business, we are now seeing reasonable progress in our diagnostics franchise.

As noted earlier, our surgical business returned to growth in the quarter as domestic NovaSure declines slowed and were more than offset by the combined OUS growth in NovaSure and strong double-digit MyoSure growth worldwide. Although the quarter is only one data point, we are optimistic this business is turning the corner.

Before turning the call over to Bob for a more detailed financial discussion, I would like to review our progress and outlook. Our focus on driving organic growth is beginning to yield positive results and validates the recent organizational and operational changes we have made.

Despite the ongoing headwinds facing the Company, we are more confident in our outlook based on the consistent improvement we have been able to deliver thus far in fiscal 2014, and especially in the third quarter. We have shown an ability to stem some of the declines in the challenged areas of our business, while accelerating growth in areas of key strength, such as 3-D mammography and molecular diagnostics.

We now have a talented and experienced leadership team in place that will build on this momentum. As Bob will detail shortly, we are raising our guidance for the year to reflect our improved performance and growing confidence in the outlook. With that, I will now turn the call over to Bob.

Thank you, Steve. I am excited to be part of the new Hologic leadership team at a time of tremendous opportunity for the Company. I look forward to partnering with Steve and the rest of the senior management team to support the efforts already underway to drive growth and capitalize on new opportunities, and deliver improved operating and financial results. I also look forward to building relationships with our investors and the analyst community in the coming months.

Our third quarter results are a signal that the turnaround at the Company is taking place, but we realize there is more work ahead of us. With that, I will now review our third quarter financial results in more detail.

Unless otherwise noted, all of my commentary regarding changes will be on a year-over-year non-GAAP basis. As Steve mentioned, third quarter revenues were $633 million, up 1% on a reported basis compared to the prior year of $626 million, and up 0.05% operationally. These results exceeded our guidance range of $615 million to $625 million for the quarter.

Now, moving on to our results by division, starting with diagnostics. Revenues of $293 million in this division declined 1.5% in the third quarter.

Drilling down into the diagnostics major business lines, revenues in our cytology and perinatal business declined 7% to $123 million. International revenues were down 3% while US revenues declined 9%, primarily as a result of lower US sales of ThinPrep, due to ongoing screening interval expansion, and to a lesser extent, a decrease in average selling prices based on customer mix.

We had a good quarter in our molecular diagnostics business, which increased 7% to $116 million driven by growth in the US. Our core APTIMA franchise experienced healthy growth in the high teens, primarily due to continued uptick at Qwest and the broader adoption of APTIMA HPV. This growth in APTIMA HPV sales was complemented by high single-digit growth in CTGC and strong growth in our trichomonas assay.

Blood screening revenues of $54 million declined 4%, probably due to the timing of contingent revenue from our collaboration with Grifols. We are encouraged by the Japanese Red Cross and other wins, which are expanding our long-term opportunities in international markets, and expect to see this impact primarily in 2015.

From an instrument placement standpoint, we had another strong quarter with Panther and are on track to place 1000 instruments by the end of fiscal 2015.

Now moving on to breast health. Revenues increased 3.5% to $238 million, driven primarily by strong growth in 3-D mammography system sales in the US, and we are on track to meet our goal of installing at least 500 3-D mammography systems in the US this year. Partially offsetting this increase was the anticipated decline of 2-D mammography system sales as customers shift to 3-D.

In addition, as Steve mentioned, we focused on exercising some pricing discipline during the end of the quarter and, as a result, our international business experienced a decline.

Service revenue was again a key contributor and we achieved 8.5% growth in this business driven by a growing installed base of digital mammography systems.

Now turning to our GYN surgical business. Revenues were up 3.5% to $78.5 million. Strong double-digit growth in our MyoSure franchise globally and double-digit growth of NovaSure internationally, help offset a high single-digit decline in domestic NovaSure sales. And, finally, our skeletal health business grew 0.9% to $23 million.

Now moving on to our third quarter performance for the rest of the P&L. Gross margins were 62.9%, up 50 basis points from last year and above our annual guidance range of approximately 62%. The strength in the third quarter gross margins was due to a variety of factors, including higher than expected revenues, favorable product mix, and favorable geographic mix.

Also during the quarter, we benefited from favorable manufacturing variances in our diagnostics business due to an increase in inventory, driven by a system cut over earlier in the year as well as volume increases. These manufacturing variances contributed approximately 75 basis points to the Company's gross margins in the quarter.

Operating expenses were $198 million, representing a 7% increase versus the prior year. And, during the quarter, we had a slight increase in our estimated annual effective tax rate from 34.5% to 34.75%. This is primarily a result of some unbenefited losses associated with some of our smaller businesses we are looking to exit.

As you know, lowering our effective tax rate was one of the biggest initiatives to come out of the strategic review process earlier in the year and we are still developing a long-term plan. Despite this slightly higher tax rate, we achieved earnings per share of $0.37, which, while down 3% from last year's third quarter EPS of 38% (sic -- $0.38, see press release), exceeded the high end of our guidance by 3%, driven by the higher than forecasted revenues and gross margins.

Now turning to the balance sheet, we finished the quarter with $638 million in cash. Our operating cash flow was $158 million for the quarter. And we have generated approximately $400 million year to date, leaving us on pace to generate $500 million to $525 million for the year as previously discussed.

We also continue to focus on paying down our debt, and year-to-date we have paid down $579 million in principal payments. We have improved our net debt to EBITDA ratio to 4.2 times as compared to 4.4 times at the end of Q2. And we ended the quarter with total debt obligations of $4.3 billion.

On the capital allocation front, deleveraging is our top priority and we did not repurchase any shares during the third quarter under our share buyback authorization.

I will now review our non-GAAP guidance, which, as a reminder, is detailed in our supplementary PowerPoint presentation, and assumes currency rates consistent with the averages during the third quarter. Before providing our fourth quarter guidance, I will first detail a one-time revenue item that will benefit our results over and above our ongoing business performance.

We have entered into an amended license agreement with Roka Bioscience. As part of the amended agreement, Roka has exercised an option to reduce their future royalty obligations and, as a result, Hologic will receive approximately $20 million in cash and common stock in the fourth quarter. This will be reflected as an addition to our revenue for the quarter and fiscal year and will result in incremental $0.05 in EPS. However, my guidance commentary will exclude this one-time benefit and I will speak in terms of the expected results of our ongoing business.

With that said, for the fiscal fourth quarter, we expect revenues in the range of $630 million to $640 million. We also expect to achieve EPS of the range of $0.36 to $0.37, mainly driven by higher forecasted revenues and an increase in our gross margin percentage to approximately 63%. Again, this excludes the one-time benefit of $20 million in revenue and associated $0.05 in EPS related to the amended license agreement.

Based upon our performance to date, and improved outlook for the fourth quarter, we are raising our full fiscal year revenue guidance to $2.50 billion to $2.51 billion, up from a previous range of $2.46 billion to $2.49 billion. We're also raising our fiscal year EPS guidance range to $1.44 to $1.45, up from our previous range of $1.37 to $1.40. Again, this excludes the one-time benefit of $0.05 associated with the amended license agreement.

Before turning the call back over to Steve, I would like to reiterate how excited I am to be a part of the Hologic team, and I look forward to contributing to the turnaround that is taking place. Our goal is to deliver organic growth with strong profitability and cash generation. We will be focused on de-levering the Company and improving our operating flexibility while employing a more disciplined approach to capital allocation in the future. With that, I will turn the call back over to Steve.

Thanks, Bob. Before we take questions, I would like to remind everyone of our priorities and commitments. First and foremost, we are focused on driving sustainable organic growth across all of our businesses, and believe we are already seeing signs of progress on this front. We are committed to reinvigorating our information innovation engine and establishing a strong global infrastructure, which will require time and investment, which should yield significant benefits for the Company in the long-term.

We are committed to paying down our debt obligations and restoring the Company's financial flexibility while generating the sizable cash flows we have historically realized. We believe focusing on these priorities places us in the best position to drive improved performance and maximize shareholder value. This is a Company with some truly breakthrough products and we are on the path to improved performance.

With that, Jamie, please open the call up to questions.

(Operator Instructions) David Lewis, Morgan Stanley.

Two questions. One is strategic and one very specific of the numbers. Steve or Bob, you talked about the growth amendment in the business the last two quarters. That has been very clear. Can you just walk me through the fourth quarter number, because the implied guidance for the fourth quarter implied a break in that momentum?

As I am sure you are aware, last quarter or last year this time was your easiest comparable. So, on a comparable adjusted basis, it implies fourth quarter sort of decelerating. Is that just conservatism or is there something specific to the fourth quarter? Then I have follow-up for Bob as well.

Sure. I think as you point out, David, we are going up against our easiest comp in the fourth quarter. So our reported growth will actually be a little bit better than it was in the last two quarters versus year ago. We are still being -- I would say, as we are shifting our guidance, I wouldn't want to signal that. I would say we are going from more conservative to more realistic guidance.

We have had to pretty big beats. But I think we feel pretty good still about the direction. But having sat through all the ups and downs and been through the full year cycle here yet, to get overly ahead of ourselves on the revenue from. But I think we are feeling reasonably good about where it is headed.

Okay. Thanks, Steve. And then, Bob, maybe if you could indulge us, we have had multiple CEO changes here in the last several years at Hologic, but we haven't had a CFO change in decades. So maybe if you could share with us your perspective from a financial point of view on what are the interesting opportunities as you have gone from a large organization to a rather small one? What are the opportunities? What have you seen short-term? What can you achieve short-term? What do you see long-term? Any help would be very much appreciated.

David, before he answers that, I would like to jump in and say one of his goals is to prevent the frequency of CEO changes. With that, Bob will take over here.

Yes. Thanks, David. Thanks, Steve. It is a good question. You had a number of questions in there and maybe I will take it in a couple of areas.

When I think about what are some of the focus areas that I am going to be looking at, both short-term and long-term, I will really speak to kind of three areas. And, first and foremost, as Steve has talked about what we want to do with this Company, I am really going to be focused on helping improve the operational execution of the business. This is going to be including working with some of the new leadership, as he mentioned, in our divisions to increase the profitability and helping to drive better performance by instilling some of that financial discipline. I think there is real opportunity there, both in the short-term and then also in the long-term.

I also think that we need to be focused on a much more disciplined approach to capital allocation. We want to leverage those strong operating cash flows to pay down the debt. We are improving our net debt to EBITDA ratio, but as you I'm sure know, we are highly leveraged relative to our peers. We want to increase our operating flexibility going forward.

As part of that, one of the things that we are going to be looking at more concretely is ROIC. We have been publishing that. That is a metric that I think is a really important metric for this Company, and I think by increasing that, that really creates shareholder value -- leads to shareholder value.

Our current is 8.3 and I think that is something longer-term I am going to be focused on improving that over time. And then, finally, I spoke to it a little bit, our opportunity around optimizing our tax position. Again, I think that is one of the key opportunities. That is something that we are looking at over time.

We haven't had a tax planning in the organization of any significance. And we are primarily a US-based company, but longer-term with the growth opportunities that we have in international, we think that we will be able to have a nice dovetail there between our tax strategy and our growth strategies to lower that tax rate over time.

Isaac Ro, Goldman Sachs.

Steve, maybe if you could spend a minute talking a little bit about how you guys are driving the ex-US growth and trying to get a sense of the infrastructure you put in place beyond the new leadership team, and just some of the ways in which you can help us get comfortable that this pace of improvement is sustainable.

Sure. I would say that, the truth is, we are still on probably the top of the first inning. We are probably in the batter's box. Claus Egstrand just started midway through the last quarter and, if I am candid with you, part of what he is going to do is rip a few things apart before he rebuilds and puts it all back together again.

So I think he has been assessing the situation, sees clear opportunities to focus in specific geographies and specific franchises and is really taking a franchise-based approach and a country-based approach to the efforts. And that is really going to start to build the infrastructure candidly this quarter and really next quarter. So I think it is going to be a build over time as we look at it.

But, to underscore the opportunities, we are delivering nice growth in Europe. We did bring in a new head of our European business last year and she has been doing a heck of a job driving that business. So I think that will be generating the shorter-term growth while he really then refocuses on Asia.

And while everybody focuses it a lot on China, we specifically have huge opportunities even in Japan, so big opportunities for us ahead. And I think what you will see is, this is going to be a multi-year journey. Much like our tax strategy a lot of what we are looking at is, it is going to take a little bit of time as we build the right people and get everything in place.

That is helpful. And just maybe one follow-up obligatory question on the overall volume environment, specifically the surgical business. I am just wondering how much in the environment -- I mean, improvement, rather -- you might attribute to things like weather, ACA, versus underlying trend versus share. It seems like to me it is really more Company-specific, but I would be curious about your views on the overall environment. Thank you.

Anytime we have an uptick, probably always my first default is to credit the external events. I think that did it.

I would tell you, though, I think our sales force in that division has really settled down. If you look back -- you go back to third quarter, fourth quarter, call it our fourth fiscal quarter last year and even our first fiscal quarter of this year, that surgical division was thinking they might be sold off. Turnover was incredibly high. That team has really hunkered down and refocused on executing.

And I am just incredibly proud of the leadership and -- at all levels of that organization, and how they have really settled that team down and refocused on the customers. And we saw very nice continued progress in MyoSure and even the NovaSure declines starting to slow. And I think it is just the blocking and tackling of those extra sales calls every day, and reenergized team there. So that is probably one of the ones we are most proud of.

Mike Matson, Needham & Company.

You did a good job paying down a significant amount of debt so far this fiscal year. But I was wondering if you could tell us what sort of level you are comfortable with on a leverage ratio perspective. And then what level of debt would you consider allocating some of your cash flow back to shareholders, either with buybacks or dividend?

Yes, Mike, this is Bob. I will take that. And so as I mentioned, currently we are at 4.2. I would tell you that is too high. I think we have mentioned getting back into a more normalized and that would probably be in the 2.5 times net debt to EBITDA ratio we put out there. We think we can get there by fiscal year 2017. And I think that that makes sense.

And I think until we do that and pay down, it is probably premature to talk about how we would distribute excess cash. But that will be something that we will be taking on over time.

All right. Thanks. And then just a question on the JAMA study. I am just wondering, obviously got a lot of headlines. Do you view this as something that is more important in the clinical community, more important in the patient community or equally important in both areas? Because I know some of this data has sort of been out there in various forms; maybe not quite as visible, though.

Great question, Mike. I think really both. There have still been the naysayers within the hospital purchasing community that have been able to kind of throw back, well, we don't have any big studies. You have got [ASLO], you have got [Scotty], you have got Roche, some little things here and there. I think we immediately are starting to see more interest, certainly from both the hospital community.

And again, as you well know, because you are very familiar with capital purchase cycles, it is not like this quarter sales are going to have this huge inflection point. But I think the momentum driving it is very good.

The other piece that we literally saw that day was saw hospitals who were suddenly getting calls from patients starting to demand it. And I will tell you one anecdote. We had some folks at a hospital I won't say that had been very reticent, that really was going through the motions, I think humoring our team and one more time.

The meeting started at 10 a.m. that day. And somebody came into the meeting and said they had already gotten six calls from patients that morning asking if that hospital had Hologic 3-D mammo. So it clearly made for a better sales call than we otherwise would have expected. So I think it is both the patient awareness and I think we can do even more on that.

The other anecdote in all of this is, actually, the OB/GYN community where we should be doing a better job of really educating that audience. We have been so focused on radiologists and the traditional users. But, as you know, we have got very nice sales forces calling on OB/GYNs, and a lot of the OB/GYNs had not really been very familiar with it. So it is also something that we can leverage there.

Again, given that the size of that audience, that will take some time. But a study that is published in JAMA certainly has a lot of credibility with that audience as well.

Richard Newitter, Leerink.

Steve, just piggybacking off of that, can you talk a little bit about the capital equipment spend environment? Obviously, you are in a unique position. You have a differentiated technology to perhaps push you over the edge on some level. But, are you noticing any changes in the tone or the conversations with administrators, their willingness to kind of prioritize capital? Can you comment there?

Not seeing any meaningful difference. It is clearly not the late 2008, early 2009 time period. So it has opened up, but it is still fairly rigorous. And I would say, I think in general we are completing competing against a lot of healthcare IT in terms of capital investments coming from the hospital. So we have really got to make our cases.

And I think even our own sales team in that breast imaging business is getting better at making the economic arguments in addition to just the technical features and benefits of the product. So it is still a slog, in sum. The process has gotten a lot more layered, shall we say, in terms of the number of sign offs within an institution, but nothing meaningfully different, say, today versus, I'd say, even a year ago.

Great. And then just a follow-up, also on tomo. You mentioned that you are optimistic that the CPT code decision and the rates that are set will be helpful to your commercialization process in January of next year going forward. Can you give us a sense of -- Are hospitals more concerned right now with perhaps not buying just because they don't want to be in front of that, given uncertainty, what are the rates going to be, how is the paradigm of reimbursement for the whole 2-D, 3-D process going to change? Or is it the other way? Are you noticing a pickup in discussions and willingness, and they want to get ahead of the CPT code that they know is coming one way or the other?

It is probably a little more the former, though it is a combination of both. I think the lack of differentiation is a simple smokescreen and a simple objection that can be put up there. Frankly, given the incredible differentiation of this product, even we are challenging our sales teams. And a lot of our sales teams that have been selling it are selling through that objection.

I do think knowing there is something coming is helping get people a little more comfortable. And I think that extra certainty will be a nice additional, call it, accelerator to the curve.

Jon Block, Stifel.

Hopefully you can hear me okay. Maybe, first, Steve, for you, on the international breast side, I asked last quarter -- I think the business was down last quarter and you pointed to a tough comp. But, down again this quarter and you mentioned pricing environment, so can you talk to maybe the landscape over there? Is it different from a competitive standpoint from what you are seeing from a pricing environment? Because I think when you mentioned pricing internationally, that was specific to breast health. Thanks.

Sure. Very good question, Jon. I would put it this way. We largely deal with a dealer network outside the US. And, candidly, when you look at the performance of the Company over time, I think we had developed a habit of allowing deep discounts at quarter end to get some extra revenue across the finish line.

And we are in the process right now on saying, you know what? We are not going to do those deals. I think Bob has come in and my new team, exerting a very different level of financial discipline that we are going to be willing to walk away from some deals that I think will come over time.

But it is probably -- if you look, dare I say, we are never going to get into monthly reporting. But if you look at the months within the quarter, very different in the last month, dare I say the last weeks of the quarter. And so I feel very good about where we will be going there.

Okay. Great. And maybe just a quick follow-up on surgical. Anything specific? I mean, I don't believe there was sort of an iteration to the NovaSure product line. Was it -- when you alluded to the guys hunkering down, has some of the dust settled from Affordable Care Act and what is free from sort of an IUD standpoint?

I guess where I am going with this is, do you think that worst is behind you, and even though you might be fighting negative growth on NovaSure, we can see some stability going forward? Thank you.

I do think the worst is behind us. We are clearly probably getting a little bit of a pop from the ACA, but that is cut both ways because IUDs are now covered. I really think this one is largely -- is coming down to sales execution, and being reminded that we have got two great products in the bag. And I think to some degree there was probably a little bit of infatuation with MyoSure.

And we just kind of took our eye off the ball a little bit with NovaSure. And now the team, I think, has really hunkered back down and realizing if we can just slow the declines on NovaSure, that also helps them get a lot closer to hitting their quotas and really helps both. So I think the leadership team there has really re-engaged and refocused the team on remembering what a great product NovaSure still is, even if it is facing some general declines.

So I think we will still see some declines there the US, but the rate of them seem to come down. And then we are really trying to ramp up those businesses outside the US.

Tycho Peterson, JPMorgan.

Maybe a follow-up to John's first question there, just on pricing; in general it seems like there is a broader strategy here to extract more price where you can. So maybe can you just comment beyond mammography, where you see it as opportunities to extract price within the portfolio and maybe by geography?

Sure. I would tell you that the bulk of it is probably really in the breast imaging business. Would love to say that it is broader than that. Bob, I am not sure if you have seen anything else in your early days to say other big opportunities to extract price.

No. I would agree with you, Steve. I think, like others, we are also seeing some pricing headwinds in some of our other areas of the business. And what we are trying to do is, where we have the opportunity, to extract that value as you talked about.

You did comment on ThinPrep coming down. That has obviously been a trend for a while, but did it take a more significant step down this quarter? And maybe just talk on, within the market, what are you seeing vis-a-vis Roche getting the primary claim?

Sure. I think, we are still seeing in the US fairly steady -- it flips a little bit up and down. We can't say that we are slowing the decline yet in the US on ThinPrep. And we still had a little bit of softness in China, just as we are shifting some dealers and some of the things on that front.

So ThinPrep has continued to be the big headwind. And I think it is important to point out, if we didn't have that, we would be a lot more optimistic probably about where we are going. But it is still a very profitable high-margin business that is going to be a headwind even in 2015 and so forth ahead of us.

But I think we are feeling it is still going down. We are working on trying to slow it, and we are just not ready to declare that we are near a bottom yet.

Anthony Petrone, Jefferies.

Maybe start with breast health and then a quick follow-up on diagnostics. Steve or Bob, maybe you can give us a sense of how much 3-D mammography service revenue was a driver this quarter. Our understanding is that a lot of systems are beyond that one year, 18-month mark in terms of being out of warranty. So how much of a driver was that this quarter and what do you expect in terms of 3-D services when you look into next quarter and next year?

Yes, Bob, do we have the breakout of 3-D versus 2-D?

I don't think we are going to be prepared to talk to the breakout of our service revenue between 2-D and 3-D.

Yes. But I think, overall, I think our service revenue, which is primarily, obviously, in our digital mammography business, grew 8%, as I mentioned. That was helping drive the breast health. We see that as a very positive development given the large installed base of digital mammography systems that we have. And, while I am not going to project going forward, we don't see that significantly dropping off.

That's helpful. And just a quick one on (technical difficulty) maybe specifically on the Gen-Probe business. When Gen-Probe was acquired, the strategy really was to stay focused on women's health. And some of the business there have already been sold, while others such as, say, oncology and respiratory have not.

So, maybe just an update on where you sit in the diagnostics portfolio. Should we expect further asset sales? Or is that sort of where you -- where the business should be at this point in terms of the portfolio? Thanks.

Sure. I think we have that portfolio pretty well set at this stage now, so -- with what we have. By the way, to also answer a previous question, I realized I didn't answer the second part of Tycho's question around HPV, and it is linked to this. We do continue to feel very good about co-testing and, therefore, ThinPrep I think still is playing a very strong role in that going forward. And, meanwhile, even though we don't have the primary indication for HPV, feel good about the direction we're going there.

Vijay Kumar, ISI Group.

Congrats on a great quarter. Maybe -- on the first question, big picture on the diagnostics, high single-digits in the US. And I know that APTIMA franchise really performed well, but I feel like that franchise in the last quarter it was not great, but then now it is back high singles. What is really driving this? Was it the Quest contract, or -- and how should we think about the run rate on a go forward basis?

Sure. Clearly, the molecular business right now in the US is being boosted by Quest. So we are going to get a four-quarter run on that and, therefore, we don't want to get too excited about exactly what that will be once that all anniversaries. We are feeling very good about HPV. It is -- we are making great strides there and really like our trajectory there.

Thank you. And maybe as a follow up on -- I think one of your earlier comments on optimizing the fact structure caught my attention. Can you walk through the blocking and tackling? I mean, given your revenue mix, 75% in the US, where do you think the tax rate could go? How long is it going to take? And can you think of anything else that could accelerate that process in decreasing the tax rates? Thank you.

This is Bob. Thanks for the question. I think we are still in the early stages, so I am not going to get into specific numbers around when you think that the tax rate can go down. But, rest assured, that is something that is high on my agenda.

What I would say is, with the opportunities that we are having around expanding our international business, there is a number of opportunities that we can do with looking at our footprint and readout and siloing things like IP and so forth. This is something that is going to take time. As you mentioned, we have 75% of our revenues in the US and we are still growing our US business.

But this is something that we are going to be focused on and, actually, have already doing started some of the kind of the blocking and tackling. And that is why some of our G&A costs are actually high year-over-year as we are starting to rationalize some legal entities to help prepare or to pave the road for optimizing some of our tax structures going forward. So we are starting to do that. When we have a more concrete plan, we will share that with you.

Suffice it to say, it won't really impact even 2015.

That is a fair comment.

Bill Quirk, Piper Jaffray.

Beyond the, call it, one-year boost from Quest, certainly the diligence does suggest that customers that have maybe been previously looking at some alternatives are seeking or looking to stick with Hologic. I'm curious, what have you done organizationally to improve the overall competitive dynamic within the existing team?

Sure. We have really got -- I would say it is two things. It is the PANTHER pant instrument, which is just a dynamite instrument. Eric Compton and Bob, both, as they came over -- Eric, our Chief Operating Officer, I know when he first went out to San Diego and saw the PANTHER system, was, dare I say, salivating and incredibly excited at what a good instrument it is.

Our team -- I think that is really the biggest part of the magic we got out of the Gen-Probe business. Combined with our sales leadership we have, I really like what our sales leadership is doing in that business. And if you think about it, some of the magic that we probably haven't talked about quite as much, bringing the physician sales force along with the lab sales force, and getting them really working together to help support the labs I think is a competitive advantage for us that is starting to show and kick in a little bit. So again, it is really a sales execution story and sales leadership and rep story along with the instrumentation.

Understood. Then, as a follow-up, and I recognize that we don't have a perfect crystal ball here, but any color on where you think the reimbursement might shake out for 3-D? And then, maybe asking in a slightly different way, where do you think it has to be in order to help accelerate the overall adoption?

I think it almost -- this will sound like a copout, but frankly, just getting it solidified, whether there was any differentiation or not, is enough that we ought to be able to sell the heck out of this product. This product is truly differentiated. And whether it becomes a small premium and medium premium, frankly I don't think I want the investment community worried about a specific number.

And I would tell you, as I sit here, I worry if people are going to peg a number in say, gee, if it is above X or below, Y, then it is not as meaningful. And, at the end of the day, just having it coded, we assume there will be differentiation. But we would also plan, even worst case if it wasn't differentiated, that we still ought to be able to drive this franchise incredibly well regardless of where it plays out. So I don't want to headline a number one way of the other and we ought to be able to drive it.

Doug Schenkel, Cowen and Company.

International surgical has been a real success story the last couple of quarters -- really the last three, at least. I guess to move from baseball to football analogies, given that you and the new team are in Patriots country now, can you talk about what quarter you are driving in NovaSure and MyoSure growth internationally? And if there are ways to further leverage some of the successful OUS commercial efforts that have been ongoing?

Sure. By the way, Deb Gordon, the ultimate Patriots fan, was just putting her hands up when you said that. So I think we are still in the preseason. There is years and years of growth ahead of us for our surgical business outside the US. And we are literally -- we are in the basics here of figuring out country by country a reimbursement strategy and where we go.

So it ought to be a very nice double-digit growth story for a long, long time. So if we play the one game, we are clearly in the first quarter.

Okay. And then, I guess this is sort of another pricing question, but keeping in mind as we talked about a little bit over the course of this call that there have been some new approvals in Chlamydia/gonorrhea and, of course, the recent Roche HPV label expansion. Are you factoring in any assumption for incremental pricing pressure in molecular diagnostics in fourth quarter? And that may be too quick, but as we think about 2015, as some of these new approvals competitively are coming about, should we be assuming that there is some incremental price? Is that how you are thinking about things? Thank you.

Sure. Less about the fourth quarter, but I think we are concerned a bit about pricing pressure in that space. It is getting more competitive, certainly, and I think is one of the headwinds we will face going forth in the molecular business.

Jayson Bedford, Raymond James.

A couple of questions on the diagnostics. In terms of the Quest rollout, how far along are you in realizing the benefits of this agreement? Meaning, are they 75% through the transition more or less?

This is Bob. So, to follow that same analogy, we are pretty close to -- we have rolled it out, we have been very successful, and we continue to see nice volume increases associated with our diagnostics business. And, as I mentioned, Quest is a portion of that. And we signed that about midyear last year and so that ramp up will start anniversarying itself, some in the third quarter of this year, but more in the fourth quarter.

Okay. And then, just as a follow-up, thinking about the impact of cancer to the diagnostic franchise, are most of the devices you are selling pulling through incremental volume or are they cannibalizing the existing base? Thanks.

It is bits of both, but we are clearly getting some incremental business and a reasonable chunk of incremental. But we also are upgrading existing customers as well.

Jon Groberg, Macquarie.

My main question has -- is around CapEx side of things. At AACC, there was a hospital who just kind of off-the-cuff mentioned that there was an essential new tax law that would require hospitals to actually capitalize their instruments as opposed to getting the benefit of the reagent rental. I was just curious if that was something you have dug into or know about, and if there is any kind of update there that you can share with us and how it might impact the business.

I don't think we know much about that (multiple speakers) haven't heard that. By the way, we won't (multiple speakers) an excuse either.

Okay. There was just a bigger hospital chain that just mentioned something that -- trying to dig into it a little bit more. And then I guess for Bob, on the Roka side, what is the royalty now and does it have the potential to be material, or is it no longer be material?

Yes. So the royalties that we have received to date are de minimis. And actually the details can actually be found in the [RES1]. Our royalty rate was 12% and it has an option to go to -- depending on performance and the pay down, it could be to 8% and then eventually to 4%.

But I would say this is kind of a one-time. We haven't seen any material revenue associated with that royalty to date and don't expect that this would have a material impact 2014 and 2015.

That is all the time we have for questions today. This now concludes Hologic's third quarter fiscal 2014 earnings call. Have a good evening.