Heska Corp (HSKA) 2008 Q4 法說會逐字稿

Ladies and gentlemen, welcome the Heska Corporation's fourth quarter and full-year 2008 earnings call (Operator Instructions) Later, we will conduct a question-and-answer session, and instructions will be given at that time.

I would now like to the turn the conference over to our host, Mr. Bob Grieve, Chief Executive Officer. Please go ahead.

Thank you, Concepcion, and thank you, all, for joining us today for our conference call. I'm joined today by Jason Napolitano, our Chief Financial Officer. We appreciate having the opportunity to review the results from the fourth quarter and full-year 2008.

Prior to discussing our results, I would like to remind you that during the course of this call, we may make certain forward-looking statements regarding future events or future financial performance of the Company. We need to caution you that any such forward-looking statements are based on our current beliefs and expectations, and involve known and unknown risks and uncertainties which may cause actual results and performance to be materially different from those expressed or implied from those forward-looking statements. Factors that could cause or contribute to such differences are detailed on our press releases or in our annual, quarterly or other filings with the SEC. These forward-looking statements speak only as of today and, except as otherwise required by law, Heska does not intend to update any forward-looking statements to reflect events that occur after today's call.

Before I turn the call over to Jason, I want to make a few points. We noted in our last call that we expected revenue to be down materially, year-over-year, in our other vaccines, pharmaceuticals and product segments, and that was clearly the case. That business is comparatively easy to forecast in the short-term, as large customers submit purchase orders and forecasts well in advance of product shipment. In addition, in this past quarter, we experienced considerable softness in our Companion Animal Health business, particularly in capital expenditures around our Instrument business. Despite various creative economic alternatives we were able to offer to our customers, there is generally a reluctance to make financial commitments to capital expenditures in our current poor economic environment. We believe our customers are anxious about their continuing cash flow, and capital expenditures are often a first target in such an environment. As we exited 2008, we were at least pleased to be able to report full-year growth in our Companion Animal Health segment.

In light of the deteriorating economy in the fourth quarter, particularly the reluctance of customers to commit to capital expenditures, we made the difficult decision to reduce our head count. We had no way to know then, or now, just when to expect improvements in the macroeconomic environment, so it was essential to remove risks to our business by reducing our operating expenses. In addition the reduction in head count, salaries were frozen across the Company, and the Company match to our 401(k) plan was suspended. As we look forward in our business, there are a number of encouraging opportunities.

Of course, we will be operating off a lower operating expense base; and in terms of growth, I would note a couple of important things. Although as we noted in our release this morning, and as I emphasized earlier, our customers are reluctant to commit to capital expenditures in the current economy, we have the advantage of being able to more actively promote other products. For example, our sales force has undertaken renewed emphasis on our Solo Step heartworm diagnostic tests, our E.R.D.-HealthScreen tests, Feline UltraNasal vaccines, and particularly, our Allergy franchise, both testing and immunotherapy.

It has in the been our practice to disclose products in our pipeline, for competitive reasons. I can discuss, however, an exciting new product we expect to have available this year. This past month at Western Veterinary Conference, we were able to demonstrate our new Dri-Chem 7000 chemistry analyzer to customers at our trade show booth. Since Western Veterinary Conference is a major trade show, which our competitors attend, Heska will not suffer a competitive disadvantage from discussing the product today. The Dri-Chem 7000 chemistry analyzer is a terrific, high-end extension to our current Dri-Chem 4000 analyzer, and should compete very effectively with the highest end of any competitive offering. We believe this product will have higher throughput capability than any analyzer currently offered by our major competitors, and we hope to benefit from the market interest in clinical chemistry generated by recent competitive product launches. We are collaborating with Fujifilm, our partner on the Dri-Chem 7000, which we expect to formally launch before year end.

In addition to emphasizing other current products and the introduction of yet a new analyzer, we are currently exploring new sales channel opportunities. In that regard, we've had extensive discussions with a number of very large strategic partners, all toward leveraging other sales channels and growing our revenue accordingly. We continue to believe that our product quality and value is competitively outstanding, yet we need to continue to explore other ways to penetrate our target market. Consistent with our strategy, we believe our focus on advanced diagnostic products is the most attractive market in companion animal health today. It seems that others are coming to a similar view, and recognize the value of the Heska brand in this area. If we are successful in these discussions, investors may expect to see a positive impact in the future.

I would now like to turn this over to Jason. He will provide detailed information on our financial results and future financial expectations.

Thank you, Bob. Our fourth quarter 2008 total revenue was $15.4 million, a decline of 23% from the prior-year period. 2008 total revenue was $81.7 million, down 1% compared to 2007. Product revenue was $15.1 million in the fourth quarter of 2008, a decline of 23% compared to the prior-year period. Full-year 2008 product revenue declined 1%, to $80.3 million, from $80.8 million in 2007. Approximately 48% of our product revenue was generated by diagnostic and other instruments and supplies, with 35% of our product revenue coming from single-use, diagnostic and other tests, pharmaceuticals and vaccines and other products, and the remaining 17% of product revenue coming from our Other Vaccines, Pharmaceuticals and Products segment, or OVP.

Consistent with our 2008 strategy, which included capitalizing on 2007 product launches in each of our three major diagnostic instrument areas, we generated a greater share of product revenue from diagnostic and other instruments and supplies. Revenue from our three major diagnostic instrument product areas, handheld chemistry and hematology, represented 44% of 2008 product revenue, up from 41% in 2007. Heartworm related and allergy related products represented 32% of 2008 product revenue, the same percentage as in 2007. Our Core Companion Animal Health segment product revenue of $13.4 million was down 22% in the fourth quarter of 2008, as compared to $17.1 million in the prior-year period. Key factors in the decline were lower sales if our hematology instruments, sales of our canine heartworm preventive, international sales of our heartworm diagnostics, sales of handheld instruments, and sales of our chemistry instruments.

The manufacturer of our hematology instrument was unable to produce to our needs in the third quarter of 2007, and the resulting backlog was cleared in the fourth quarter of 2007. We also launched a new chemistry instrument in the fourth quarter of 2007. So, even in the best of circumstances, we faced a difficult comparison for these product areas in the fourth quarter of 2008. This quarter was far from the best of circumstances, given the state of the overall economy. As Bob mentioned, we believe veterinarians are anxious about the overall economy and its impact on their patient flow. New capital purchases are one obvious area for veterinarians to defer spending in such a circumstance, and we believe this was a crucial component of the poor revenue performance of our three major lines of diagnostic instruments in the fourth quarter of 2008.

Despite these challenges, we were able to generate record Core Companion Animal Health product revenue of $67 million in 2008. 51% of our Core Companion Animal Health product revenue was from direct sales, 29% was from independent third party distributors, and 20% was from other distribution relationships, such as our Corporate Heartworm Preventive Agreement with Shearing-Plough Animal Health, the sale of kits to conduct blood testing to third party veterinary diagnostic laboratories outside the US.

2008 Core Companion Animal Health product revenue increased 2%, as compared to $65.9 million dollars in 2007. Greater sales of our chemistry instruments, instrument consumables and our heartworm diagnostic tests were key factors in the increase, and were somewhat offset by lower sales of our handheld instruments and our heartworm preventive, both domestically and internationally.

I think it is worth discussing our heartworm preventive, which is a relatively high margin product for us, at this point. We have previously discussed the difficult year-over-year comparison, caused by the Japanese distribution of our canine heartworm preventive. In the first quarter of 2007, we recognized over $575,000 in international sales of this product, which was sold to Novartis for distribution in Japan. Novartis subsequently acquired a business with a product competitive to ours and informed us they would no longer market and distribute our product. We have investigated alternative distribution relationships in Japan, although we have been unable to come to agreement with a new distributor in that market to date.

On the domestic front, Shearing-Plough Animal Health Corporation, or SPA, has exclusive distribution and marketing rights for this product. We manufacture the product and make our money on a transfer price basis on a product sold to SPA. We were disappointed with sales of this product to SPA in 2008, which were at their lowest level since 2005. We recently sat down to discuss the situation with SPA, who convinced us of their interest in, and commitment to, the product. We discussed ways we could work to increase sales of this product.

On March 9th, a few days after our meeting, Merck & Co., Inc., or Merck, and Shearing-Plough Corporation, or Shearing, announced plans to merge. Shearing is the parent company of SPA. Although Merck does not currently compete directly with us in the companion animal health business, they do own 50% of an entity known as Merial Ltd., which sells Heartgard, a product directly competitive with our heartworm preventive. We have heard conflicting reports of the post merger plans for the animal health assets of the combined Merck-Shearing. If Merck and Shearing are required to divest or cease operations related to our heartworm preventive in order to complete their merger, our sales could decline significantly and our business could be damaged. Similarly, if SPA personnel are distracted or experience turmoil as a result of the announced merger between Merck and Shearing, our sales could decline significantly.

We were pleased with domestic sales of our heartworm diagnostic tests in the fourth quarter of 2008 and for the full-year as a whole. We believe some of our major competitors in this area suffered from quality and supply problems in 2008. While another of our major competitors, Idexx, launched a new canine heartworm diagnostic test in January 2009, which is competitive with ours, we have increased revenue and are ahead of our internal budget year-to-date for domestic sales of our canine heartworm tests. We will continue to monitor the market to see the impact of the new competitive product in this area.

OVP product revenue was $1.7 million in the fourth quarter of 2008, down 34% as compared to $2.6 million in the prior-year period. The decline was due to lower sales of our bovine vaccines under our contract with Agrilabs, small mammal products, and fish vaccines to Aqua Health, a unit of Novartis. On our last two earnings calls, we have discussed Aqua Health's decision to manufacture their fish vaccines in house. We believe this decision is a result of the success of these products in the field and the resulting volume level of product to be produced. Aqua Health has informed us they do not intend to purchase any fish vaccines from us in 2009. We generated $2.8 million in product revenue from the sale of fish vaccines to Aqua Health in 2008, all in the first half of the year. This will obviously present a difficult comparison for us in 2009. While we have had some preliminary discussions of alternative fish vaccine revenue opportunities, and we are always searching for new revenue opportunities, we expect OVP product revenue to decline in 2009 as compared to 2008, with the loss of fish vaccine sales to Aqua Health as the primary factor in the decline.

For the full year, OPV product revenue was $13.3 million, down 11%, as compared to $14.9 million in 2007. The largest factor in the decrease was approximately $1.6 million dollars of revenue we recognized in the first quarter of 2007 upon receipt of a payment for product previously shipped, and take-or-pay minimums for 2005 and 2006, which previously had not been paid, as part of a now settled dispute with United Vaccines, Inc., or United, a former customer. As the payment was for product previously shipped and take-or pay-minimums for 2005 and 2006, which previously had not been paid, it was at virtually 100% gross margin. United had been struggling to make its business work and has ceased operations, which contributed to a difficult year-over-year comparison in our OVP segment. We do not expect to generate any future revenue from sales to United.

Sales of bovine vaccines, under our contract with Agrilabs increased in 2008 as compared to 2007, which somewhat offset the OVP product revenue decline related to United, I just discussed. Research, development and other revenue was $307,000 in the fourth quarter of 2008, a decline of 6%, compared to $325,000 in the prior-year period. Lower revenue recognized from sponsored research and development activities was a key factor in the decline. In 2008, research development and other revenue was $1.3 million, down 13% compared to $1.5 million in the prior-year period. A key factor in the decline was lower revenue from a service contract related to a worldwide patent portfolio covering a number of major allergens and the genes that encode them, which I will refer to as the Allergopharma Portfolio with a buyer of the Allergopharma Portfolio, which we sold in December 2006. We received our final payment under this contract in the third quarter of 2007.

In the fourth quarter of 2008, gross margin, that is total gross profit divided by total revenue, was 28.1%, down from 34.5% in the prior-year period. Key factors in the decline were significantly lower margins in our OVP segment and increased inventory reserves against inventory we expect to expire prior to sale. Significantly lower revenue over which fixed costs could be spread and a relatively low margin product mix were key factors in the decline of OVP segment margins. Inventory reserves increased by approximately $200,000, as compared to the prior-year period. The largest factor was inventory reserves related to our Dri-Chem slides, where placements, and therefore, consumable usage has lagged our expectations.

2008 gross margin was 35.3%, down from 40.3% in 2007. The largest factor in the decline was the revenue recognized from United in 2007, for which the affiliated cost of products sold had been recognized in prior periods and for which no corresponding revenue or gross profit was recognized in 2008. In addition, product mix and increased inventory reserves, taken against inventory we expect to expire prior to sale, were factors in the decrease. The largest factor in inventory reserves was related to Dri-Chem slides, as I have already discussed. The second largest factor in inventory reserves was related to cartridges for our handheld blood analysis instruments. We purchased inventory late in 2007, assuming success in end user usage programs for these products, which did not materialize as expected.

Sales and marketing expenses were $3.6 million in the fourth quarter of 2008, down about 8%, from $3.9 million in the prior year period. Lower commissions and lower expenses related to the launch of our new chemistry instrument in the fourth quarter of 2007 were key factors in the decline. Sales and marketing expenses increased by 10% , to $17.6 million in 2008, as compared to $16.1 million in the prior-year period. Key factors in the change were an increase in personnel and increased expenditures on market research.

Research and development expenses were $489,000 in the fourth quarter of 2008, down $81,000 from $575,000 in the prior-year period. For full year 2008, research and development expenses were $2 million, down $728,000 from $2.7 million in 2007. A key factor in the decline in both cases was less space at our corporate headquarters being used for research and development activities. In late 2007, we implemented a plan to move and expand space for certain activities within our corporate headquarters, which reduced the space dedicated to research and development activities.

General and administrative expenses, $2.2 million in the fourth quarter of 2008, up 15% from $1.9 million in the prior-year period. We reversed a MIT bonus accrual in the fourth quarter of 2007 as we performed to lower expectations in that period, and increased bad debt in the fourth quarter of 2008 . Each of these items increased our general and administrative expenses by about $100,000 on a year-over-year basis in 2008, as compared to 2007.

General and administrative expenses were $8.9 million in 2008, a slight decrease as compared to 2007. A factor in the decline was no MIT bonus payments were earned in 2008, while there was some corresponding MIT bonus payout earned in 2007. We recorded $785,000 in restructuring expenses in the fourth quarter of 2008, and recorded no other restructuring expenses in any other quarter of 2008, or in 2007. Of the $785,000, we recorded approximately $621,000 related primarily to personnel severance and other costs for certain individuals affected by our restructuring in December 2008, and $164,000 of inventory related to discontinued products. Of the expense related to inventory, approximately $75,000 was related to remaining inventory of our Vet/Ox G2 Digital Monitor. The manufacturer, Dolphin Medical Inc., majority owned subsidiary of OSI Systems, Inc., has informed us they will no longer support or provide sensors to the product, and we have not pursued any legal remedies. The remaining $89,000 of expense related to inventory was for discontinued products we made a concerted effort to sell in 2008, but were unable to.

We recorded $232,000 in other operating expenses for the fourth quarter of 2008, and recorded no other corresponding expenses in any other quarter of 2008, or in 2007. This is a non-cash expense, as included in the depreciation and amortization line of our cash flow statement. This was an asset impairment expense related to certain handheld blood analysis instruments, capitalized as rental units for use by our customers, which I will refer to as the Rental Units. A majority of the Rental Units were being depreciated over a four year life.

We are supplying handheld instruments and affiliated cartridges and supplies under a contractual agreement with Abbott Point of Care, Inc., or APOC, formerly known as i-STAT Corporation, and a unit of Abbott Laboratories. APOC has informed us they will no longer produce the original i-STAT Handheld Clinical Analyzer, which I will refer to as the Original i-STAT, although they will continue to support the Original i-STAT with spare parts and other efforts, such as software upgrades through year end 2013.

We have been marketing the Original i-STAT alongside a new product we introduced into the veterinary market January 2007, the i-STAT 1 Handheld Clinical Analyzer, which I will refer to as the i-STAT 1. We believe that the Original i-STAT is arguably a better overall fit with the veterinary market in the current economy, but in any case, we would like to continue to offer both products. The i-STAT 1 as a premium product for a more sophisticated, higher end user, and the Original i-STAT as a value offering. We believe this is how we will maximize the opportunity in this product area. We have asked APOC to continuing producing the Original i-STAT. APOC has the right to cancel our agreement, with notice to us. If APOC does so, we believe we have the contractual right to purchase consumable supplies from APOC for six months, and sell consumable supplies for at least nine months following such notice on a non-exclusive basis. It is clear to us APOC wants to see increased cartridge use in this product area, and we would like to come to an agreement with them to continue to offer these products. We've made a proposal which APOC is currently considering.

However, as we are unsure of the outcome of this situation at this time, we concluded that the appropriate depreciation period for the rental units was through year-end 2009. Based on average usage assumptions for these instruments, we calculated the future undiscounted cash flows associated with usage of the rental units through year end 2009, and recorded an impairment to reduce the carrying amount of the rental units to this level.

In the first quarter of 2007, we recorded a gain of $47,000 on the sale of certain patents we held, net of costs, on the other operating expenses line. We had no corresponding entries in any other quarter in 2007 or in 2008. Our loss from operations in the fourth quarter of 2008 was $2.9 million, as compared to income from operations of $528,000, in the prior-year period. Our 2008 loss from operations was $681,000, as opposed to income from operations of $5.5 million in 2007. 2008 depreciation and amortization was $3.3 million. Interest and other expense, net, was $140,000 in the fourth quarter of 2008, down $15,000 from $155,000 in the prior-year period. This was primarily due to lower interest rates, the benefit of which was somewhat offset by a $38,000 increase in currency related losses.

Under our bank agreement with Wells Fargo, we borrowed at a rate of prime plus 1% in the first quarter of 2007, and prime flat beginning on April 1st, 2007, through November 2008. At the end of November 2008, we violated our minimum capital covenant. We subsequently entered into negotiations will Wells Fargo and signed an amended agreement with Wells Fargo on December 30th, 2008. The amended agreement includes a waiver of the financial covenant default, adjusts and sets our minimum capital, minimum net income and capital expenditures covenants, a $50,000 fee to Wells Fargo, a 1% prepayment penalty on the full revolver and any outstanding borrowings in effect until the agreement maturity date in 2011, and a new borrowing rate of prime plus 2.5%, retroactive to December 1st, 2008.

In July 2005, we borrowed $2.5 million from Wells Fargo, secured by machinery and equipment in our Des Moines and Loveland facilities. At that time, the machinery and equipment was appraised at over $2.5 million. We've added over $1 million in capital expenditures since that time. Despite the fact that we have only $880,000 borrowed directly against our machinery and equipment at year end 2008, Wells Fargo denied our request to borrow further, directly against our machinery and equipment.

Similarly, we own our own production facility and the land it sits on in Des Moines, as well as a research farm in nearby Carlisle, Iowa. We understand Wells Fargo had received an updated summary evaluation indicating these assets are worth over $2.5 million. Although we have borrowed only $269,000 directly against these assets at year end, Wells Fargo has made it clear to us they are not interested in extending any further credit secured by these assets. We believe that this situation is the result of the extremely tight credit conditions in the current market.

It is noteworthy that we believe many of our customers are currently facing similar credit conditions and a similar reluctance to lend against capital assets. This obviously has a negative impact on our business, in particular the sale of capital goods, such as our instruments. While it is frustrating to feel one has untapped credit capacity, and no one likes to experience an increase in interest rate spread, we are pleased with the covenants we have negotiated for 2009, which do not require us to generate net income until the fourth quarter of 2009, in which, we believe we will achieve.

2008 interest and other expense net was $640,000, up $52,000 from $588,000 in 2007. The largest factor in the change was greater borrowings under our revolving line of credit with Wells Fargo, somewhat offset by lower market interest rates. We reported an income tax benefit in all 2007 and 2008 periods reported today. In full-year and fourth quarter 2007, we recorded a $30 million valuation allowance adjustment income tax benefit. This is a non-cash accounting entry based on our conclusion in December 2007, that a portion of our domestic net operating loss, or NOL, was realizable on a more likely, than not, basis. Previously, our domestic deferred tax assets had been reduced by an equal offsetting valuation allowance. Upon recognition of our $30 million valuation allowance adjustment tax benefit, we recognized a corresponding $30 million net deferred tax asset on our balance sheet, equal to the amount of taxes we will not pay in cash due to our deferred tax assets that we otherwise would have paid, assuming our estimate of the realizable portion of our domestic NOL is correct. We've included a pro-forma table for both full-year and fourth quarter 2007 for investors' convenience.

This is the last quarterly period for which we expect to report evaluation allowance adjustment, income tax benefit, so we anticipate explaining year-over-year results for this line item will be more straightforward going forward, beginning on our next call. While we do not anticipate a valuation allowance adjustment related to our deferred tax assets in any period in the near future, there can be no assurance a significant valuation allowance adjustment, increase or decrease, will not be appropriate in the future. The income tax benefits recognized in full-year and fourth quarter of 2008 both relate primarily to deferred tax assets arising from our domestic loss, before income taxes, in both periods.

For the reasons we have discussed in the fourth quarter of 2008, we generated a net loss of $1.9 million, as compared to net income of $30.4 million in the prior-year period. Similarly, we generated a net loss of $850,000 in 2008, as compared to net income of $34.8 million in 2007. While these are fairly large swings, it is important to note the effect of non-cash accounting entries. In 2008, our cash flow statement shows net cash provided by operating activities of $1.7 million, a $3.4 million improvement, as opposed to cash used in operating activities of $1.7 million in 2007. As in 2008, in 2009, we expect to reduce our inventory levels and show net cash provided by operating activities on our cash flow statement. In 2008, we had net cash used in investing activities of $554,000, all for capital expenditures. This is obviously significantly less than the $1.7 million of net cash provided by operating activities for the year.

Before I turn to more specific guidance, I think it is worth a brief discussion of delisting. Since our last earnings call, NASDAQ has extended its temporary suspension of minimum bid price enforcement until April 20, 2009, and the compliance process is to be reinstated. We understand we are to have 180 calendar days from April 20, 2009, to regain compliance with the minimum bid price requirement, which requires our stock to have a minimum closing bid price of $1 for at least ten consecutive trading days. If we do not meet this requirement by mid-October 2009, we understand we will be eligible for an additional 180 calendar day compliance period, if we satisfy all other NASDAQ capital market, initial listing criteria at that time.

As of Friday's close, we believe we were in compliance with all NASDAQ initial listing criteria other than the minimum bid price, and so we expect we would be able to gain access to the additional 180 day compliance period beginning in mid October, if necessary. If we complete the second 180 day period and still have not regained compliance, we could pursue a reverse stock split to regain compliance with the minimum bid price requirement. We have faced delisting twice since 2002, and regained full compliance with NASDAQ rules, in both cases, without a reverse stock split. We intend to follow the same strategy now as we succeeded with then, demonstrate business success over time and grow the stock price organically.

The last time we faced delisting, our Board concluded we should use the full benefit of the compliance period granted to us by NASDAQ, and request a hearing to inform NASDAQ of our intent to pursue a reverse stock split if we fail to regain compliance in the time allotted. I imagine the Board would take a similar reverse stock split position if it comes to it, although this will ultimately be determined by the Board itself, based on the facts and circumstances at that time.

I think it is worth noting our business has never been easy to project. Current economic conditions and the items we have discussed today make it significantly harder to forecast our business with any accuracy, in particular as we try to forecast later into 2009. For this reason, we will have no comment on forecasts or expectations beyond 2009, at this time. Investors should note the difficulty and risks inherent in forecasting in this environment, and understand that our guidance today is based on our current expectation, assuming no major changes in our current business offerings and operations.

One final note before I turn to formal guidance. As Research, Development and Other revenue has increasingly become a smaller part of our overall business, a trend we expect to continue, this is the last period we will report Research development and Other revenue as a separate line item. Going forward, we expect to report two revenue line items, Core Companion Animal Health revenue, and Other Vaccines, Pharmaceuticals and Products revenue. These line items will combine Product revenue, and Research Development and Other revenue, for each of the segments of our business. On this basis, 2008 Core Companion Animal Health revenue was $68.1 million, and Other Vaccines, Pharmaceuticals and Products revenue was $13.5 million.

We also intend to change the title of Income or Loss from Operations, to Operating Income or Loss, going forward. For the first quarter of 2009, our guidance is for revenue of approximately $19.5 million, including $2 million in OVP revenue. We are guiding for gross margin of over 33%, approximately $6.75 million in operating expenses, and operating loss of approximately $200,000, approximately $150,000 in interest and other expense, and a net loss of approximately $200,000.

For full year 2009, our guidance is for revenue of approximately $80 million, including $10 million in OVP revenue. We are guiding for gross margin to be flat, or down slightly compared to 2008, operating expenses of approximately $27 million, operating income of a little under $1 million, approximately $600,000 of interest and other expense, and a little under $200,000 in net income. The tax expense implied by this guidance is affected by the impact of permanent tax differences by relatively low pre-tax income results. Based on conversations with our tax advisors in the past, we expect a 38.25% marginal tax rate for domestic net operating loss usage tax expense beyond permanent tax differences. This would represent the largest component of income tax expense in the 2007 pro-forma consolidated statement of operation in today's press release.

In summary, we are living in a difficult economic environment, and we face challenges ahead. At the end of last year, we made some changes to lower our expense base in recognition of these circumstances, and we are working every day to build shareholder value in 2009 and beyond. With that, I'll turn it back over to you, Bob.

Thank you, Jason . While we acknowledge the uncertainty associated with the overall, external economic conditions, now those conditions may affect our business. We remain enthusiastic for the business opportunities over the long term. We are committed to efficient operation of our base business, changing emphasis on product mix, future growth through new product introductions, and exploration of unique sales channel opportunities, all with a goal of creating value for our shareholders.

Thanks for your attention today. We appreciate your continued interest and support of Heska. At this time, I'd like to turn this over to our moderator for purposes of conducting our question-and-answer session.

Thank you, sir. (Operator Instructions) Our first question comes from John Nelson with State of Wisconsin Investments. Please go ahead.

Hello, Bob and Jason. Could you tell me why there are roughly 4 million shares less outstanding for the end of the year?

Sure, John. That is a consequence of the net loss for the year, which makes the options anti-dilutive.

Okay.

So you don't include the options in that 2008 calculation.

All right. And I missed at the beginning, you mentioned the diagnostic products that there might be a positive announcement in the future related to that area. Was there some other comment in there that I missed?

Yes, John. Perhaps. I described the fact that we showed our customers for the first time a new product offering that will we'll be launching at the end of this year. This is a new high end version, veterinary chemistry analyzer, called the Dri-Chem 7000.

Yes. Okay. And you said that you introduced it at the end of last year?

No. We actually showed it to customers for the first time in February, and we expect to have the hard launch by the end of the year.

Okay. Well, that's quite a while. Can you give me any more definition as to why such a lengthy period of time before you know whether you'll launch it or not before the end of the year? Is there something technical that prevents you from launching it now?

Not exactly. There are a lot of dynamics. First let me emphasize, John, that the Western Veterinary Conference was the last major trade show of the year, where you'd have the opportunity to put it in front of such a high number of customers.

Yes.

So we wanted to show it there and demo it there. Then, between now and when we actually formally launch, we'll be working on fine tuning optimization, and then getting it to manufacturing commercial scale. I would say, other than that, we talked about launching it before the end of the year, and I wouldn't want to have to connote any more detail than that. If we were any more specific, it is probably to our competitive disadvantage.

Okay. Other than the speed, are there any unique attributes to this particular Chem analyzer versus the 4000, for example?

Let me just talk in generalities again, John, and we're going to be talking about this incrementally for competitive reasons.

Okay.

It's going to be handled in a much larger volume of individual samples at one time. It's going to be amenable to more high throughput environments, higher end hospitals and hospitals that aggregate all of their pre-surgicals, for example, in one part of the day.

Okay. Good. Thanks very much.

You're welcome, John.

Thank you, John.

Our next question comes from Jonathan Block with SunTrust. Please go ahead.

Hi. This is actually Maggie Lovett, in for John. I was just wondering if you could give some more color on your heartworm diagnostic tests and how you they think stack up to the competitive products? Do you think you need to start offering multi anni light tests to more effectively compete with the 3DX and 4DX snapshots? And the second part of the question would be, Abaxus has indicated they will be selling their heartworm test for about $4. Just wondering how that compares to your tests and what kind of strategy you're going to use to combat with that?

Sure. Thanks for the question. Sounds like an educated question. Our heartworm test at this time, and all we're willing to talk about are the heartworm tests that we have available at this time, have been available for some period of time. The Solo Step brand has been very well received. We have a relationship with Quidel Corporation where we collaborate on that product. They're very stable, robust assays. The first room temperature, one step assays available. Very well received by customers. We've had strength in sales. I would say we have never had a strategy of chasing price in this market or chasing people down on price. We've had opportunities to see the aforementioned $4 test, and acknowledge that. But again, not our goal to chase price down, and certainly, we don't think a product that would meet our current Solo Step customers' needs and their expectation for quality.

Okay. Thanks for that. And then, if you could maybe give some more detail on the potential strategic partnership, can you give us an idea of what part of the business that might apply to? For example, like in this tough economic environment, maybe are you more focused on a partnership to promote your chemistry analyzer, maybe with a company that can help customers finance that capital equipment purchase?

It's not really a finance. We're not looking for financing partners. We're looking for sales channel partners here. We won't give much detail beyond that, because it just doesn't serve anyone, shareholders included, to provide more detail. Just want to tell you, shareholder in general, we're earnestly looking at this and actively involved in those sorts of discussions.

Okay, thanks.

You're welcome. Thank you for the question.

Thank you. (Operator Instructions) Pardon me, management, we have no further questions in the queue. Please continue.

Thank you, operator. Thank you, all, for your interest in Heska and for taking the time to join us today. Good-bye.

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