Integra Lifesciences Holdings Corp (IART) 2017 Q1 法說會逐字稿

Good day, everyone, and welcome to the Integra LifeSciences First Quarter 2017 Financial Results Call. As a reminder, today's call is being recorded. At this time, I would like to turn the call over to Angela Steinway, Global Head of Strategic Initiatives and Investor Relations. Please go ahead.

Thanks, Ashley. Good morning, and thank you for joining the Integra LifeSciences First Quarter 2017 Earnings Results Conference Call. Joining me today are Peter Arduini, President and Chief Executive Officer; and Glenn Coleman, Chief Financial Officer and Corporate Vice President of International.

Earlier this morning, we issued a press release announcing our first quarter 2017 financial results. We also posted a presentation on our website, which we will reference during the call today. You can find this presentation at integralife.com under Investors, Events & Presentations in the file named First Quarter 2017 Earnings Call Presentation.

If you would open that file up to Slide 2, please reference our safe harbor statement covering the forward-looking statements. Also, please turn to Slide 3 to find an explanation of non-GAAP financial measures that we will refer to on today's call and reference the reconciliations of non-GAAP financial measures at the end of the presentation beginning on Slide 13.

And now I'll turn the call over to Pete.

Thank you, Angela, and good morning, everyone. We're pleased that we've gotten off to a solid start beginning of the year and our performance in the first quarter slightly exceeded expectations. And this performance increases our confidence that we can achieve our financial targets for the full year.

If you'll turn to Slide 4, I'll walk through some of the first quarter's highlights. First quarter sales up $258.6 million, represents organic growth of 6.4% over the prior year. Double digit increases in our Orthopedics & Tissue Technologies segment led the growth and sales in Specialty Surgical Solutions increased 4% on an organic basis, slightly ahead of our expectations. We achieved an adjusted gross margin of over 70% for the second consecutive quarter, driven by our higher-margin regenerative products and improved operating efficiencies. We accomplished this gross margin performance despite a partial quarter of dilution resulting from the Derma Sciences acquisition. Operating cash flow increased over 15% to $28.9 million, resulting in an adjusted free cash flow conversion of over 85% on a trailing 12-month basis. Not only does this performance demonstrate a significant improvement over the prior year, but it also represents the best performance that we've achieved in the past 5 years. We closed the Derma Sciences acquisition in the middle of the quarter, and are off to a good start with the integration of that business. As we previously indicated, the addition of Derma Sciences products and channel to our 3x3 advanced wound care strategy adds significant scale and allows us to leverage our distribution, manufacturing and operational capabilities. Our portfolio of advanced cellular and tissue-based products such Omnigraft, PriMatrix, and now, AMNIOEXCEL, allows us to offer solutions to treat wounds from early onset to the most severe and chronic cases. Our expanded outpatient commercial organization combined with an established inpatient channel and enterprise contracting team differentiates our go-to-market capabilities from the competition. This acquisition and the breadth of product lines enables us to be a leader in the growing wound care market. I'd also like to provide an update on our planned acquisition of the Codman Neurosurgery business from Johnson & Johnson. Both companies' dedicated integration teams have been working together since the announcement in February, and we're encouraged by the progress that we've made to date. We have a fully staffed integration management office with over 30 commercial and functional leaders and their teams, who are further supported by external resources. And we're making good progress on our operating model, including go-to-market strategy, legal [entity] structure and organizational design. We're moving forward with the regulatory review in several countries around the world, including the United States, where we received a second request and have been in communications with the FTC. We've also been engaged with J&J and employees' consultative process, and the applicable foreign jurisdictions, and are on track to our initial plans to reach closure with these countries. Finally, securing the financing in the first quarter was a significant accomplishment, and we remain on track for our fourth quarter close. We launched a number of new products in the first quarter and we expect -- that we expect will have a positive impact on organic growth over the course of 2017. Most notably in our tissue ablation franchise, we began the global commercial release of a new generation of our ultrasonic tissue ablation system called CUSA Clarity. This is our most significant new product introduction within Specialty Surgical in several years, and addresses a number of surgeons' requirements such as enhanced power and precision for complex neurosurgery cases, an ergonomically designed system and features to allow for a streamlined set up within the operating room. The CUSA Clarity provides a greater than 50% increase in fibrous tissue removal rate, which translates into a significant reduction in operating room time. We attended this week's American Association of Neurological Surgeons conference in L.A. and we're pleased to receive very positive clinician feedback. With our regenerative -- within our regenerative portfolio, we launched new small sizes of both Omnigraft and PriMatrix to give clinicians more options to address diabetic foot ulcers, while also improving the reimbursement profile for users. We also expect to launch several regenerative products in the second and third quarters of this year. Within our Extremities franchise, shoulder continues to do well and we recently introduced the Titan Press-Fit Reverse Shoulder for Fracture at the AAOS meeting a few weeks ago to enhance the clinical indications in this franchise. We also announced the full commercial availability of the Cadence Total Ankle. The Cadence system now has been used in over 200 procedures in 7 countries, and continued to receive positive feedback from surgeons. The Cadence coupled with the Salto Ankle positions Integra to have the most competitive ankle arthroplasty portfolio. The first quarter announcements of the Derma Sciences and Codman Neurosurgery transactions marked the start of a transformational year for Integra. We remain laser-focused on meeting our full year financial targets by executing within our core businesses, while also integrating Derma Sciences and closing the Codman acquisition.

And now, I'd like to turn the call over to Glenn, who is going to provide a more detailed review of our financial results. Glenn?

Thanks, Pete, and good morning, everyone. Our first quarter financial performance was certainly better than the guidance we provided during our February earnings call. Let me now discuss further details of our first quarter results.

Please turn to Slide 5, where I'll begin with an overview of the revenue performance for our Specialty Surgical Solutions segment. First quarter reported sales were $156.3 million, an increase of 4.1% over the prior year on an organic basis. Sales in dural repair increased in the high-single digits over the first quarter of 2016, largely driven by volume. Sales in precision tools and instruments, increased mid-single digits compared to the prior year quarter resulting from the continued strength of our MAYFIELD 2 Cranial Stabilization device. Our tissue ablation franchise increased mid-single digits, and we expect the ramp to accelerate in the second half of the year with the launch of CUSA Clarity. We have taken great care in designing a scalable platform to support future enhancements at improved gross margins versus prior CUSA generations. We expect some trialing of the new system over the near-term, followed by a multi-year upgrade cycle. Now rounding out our capital discussion, neurocritical care sales performed in line with our expectations. International sales within the segment increased in the mid-single digits driven by strong growth in Asia Pacific, with double-digit increases coming from Japan and China. For the full year 2017, we're not making any changes to our segment guidance. We continue to expect sales in the Specialty Surgical Solutions segment to increase in the range of 3.5% to 5.5% on a reported basis, and 1 point higher on an organic basis.

Please turn to Slide 6 for an overview of our revenue performance in Orthopedics and Tissue Technologies. First quarter sales in this segment were $102.3 million, representing an increase of almost 20% over the prior-year quarter, which includes an increase in organic growth of 10.4%. Sales of our regenerative technologies, excluding the Derma Sciences products, increased double digits compared to the same quarter in the prior year. Strength in our skin portfolio and private label products drove the performance. We have launched or are in track to launch several new sizes and configurations of our regenerative products, and remain confident that growth in this part of our business will continue to generate double-digit performance for the remainder of the year. The Derma Sciences acquisition closed on February 24, and contributed sales of $10.4 million to our first quarter results. These sales slightly exceeded our expectations, because of the timing of when orders were received within the first quarter. We're still in the early stages of training our combined sales forces and aligning our sales channels. We feel increasingly confident that we will achieve or exceed the $70 million sales guidance we provided in February, but we would like to make more progress with the commercial integration before revisiting our guidance. Sales in the domestic advanced wound care portfolio, which includes Derma Sciences advanced tissue products as well as PriMatrix and Omnigraft, remain on track to reach our previous 2017 pro forma guidance of $60 million.

Moving to the total Extremities business, sales increased mid-single digits over the prior-year quarter, excluding the sales of a discontinued Integra product from both periods. Sales of both shoulder and ankle arthroplasty increased double digits over the prior-year period and led the growth. International sales were up over 3% on a reported basis, but were flat when excluding Derma Sciences and the discontinued Integra product. For the full year 2017, we are reiterating our guidance for the Orthopedics and Tissue Technologies segment, and expect sales to grow in the range of 27% to 32% on a reported basis and 9% to 14% on an organic basis.

Please turn to Slide 7 for our consolidated revenue guidance. For the full year 2017, we're maintaining our revenue guidance range of $1.12 billion to $1.14 billion. As a reminder, the planned acquisition of Codman Neurosurgery is expected to close in the fourth quarter of 2017, and is not included in our guidance. For the second quarter of 2017, we expect total revenue to be in a range of $282 million to $287 million, representing reported growth of between 13% and 15% with organic growth in a range of 6.5% to 7.5%.

Now if you please turn to Slide 8, I'll review our key highlights from our first quarter P&L performance and review guidance for the full year 2017. As a reminder, the pre-closed cost associated with the Codman Neurosurgery acquisition are included in GAAP P&L and cash flow guidance, but the operating results from Codman Neurosurgery are not yet reflected in our guidance. First quarter GAAP gross margin increased 230 basis points over the prior year to 66.5%. Adjusted gross margin was 70.2%, an increase of 100 basis points over the prior year largely resulting from a favorable product mix and improved operating efficiencies. For 2017, we expect GAAP gross margin to be in a range of 65% to 66%, and adjusted gross margin to be between 69% and 70%, unchanged from our prior guidance. As a reminder, the inclusion of Derma Sciences is dilutive to our adjusted gross margin by about 100 basis points for the full year. Excluding the impact of Derma Sciences, we expect an improvement of around 100 basis points in our underlying gross margin during 2017.

Turning to operating expenses, both GAAP and adjusted R&D as a percentage of revenue were 6% in the first quarter. For 2017, we're not making any changes to guidance, and continue to expect both our GAAP and adjusted R&D to be approximately 6% of revenues. SG&A expense in the first quarter was 55.1% of revenue and adjusted SG&A was 46.2%. As most of you are aware, our first quarter expenses tend to be the highest of the year, as we hold national sales meetings and make planned investments in our commercial channel. In addition, our GAAP SG&A expenses include significant acquisition-related costs for the integration and pre-closed planning costs associated with Derma Sciences and Codman Neurosurgery. Our first quarter also represents our lowest revenue base of the year, so SG&A as a percentage of revenue tends to be the highest in the first quarter. We expect revenue to grow at a significantly higher rate than SG&A in the remaining 3 quarters, which will provide better leverage and EBITDA margin expansion for the balance of the year. As a result, we're maintaining our full year 2017 guidance for GAAP SG&A in the range of 51% to 52% and adjusted SG&A in the range of 43% to 44%. Our first quarter 2017 adjusted EBITDA margin was 21.3%, down 70 basis points from the prior year's first quarter, largely driven by the dilution from the Derma Sciences acquisition. We are reiterating our full year 2017 adjusted EBITDA margin guidance to be in a range of 23% to 24%, which includes about 100 basis points of dilution from the Derma Sciences acquisition.

Moving to earnings per share. We're not making any changes to our guidance and continue to expect GAAP earnings per share to be in the range of $0.49 to $0.55, and adjusted earnings per share to be in a range of $1.88 to $1.94. For the second quarter of 2017, we expect adjusted earnings per share to be in a range of $0.43 to $0.46, which represents year-over-year growth of 8% to 15%.

Turning to Slide 9. Our operating cash flow in the first quarter of 2017 was $28.9 million, with capital expenditures of $9.2 million. On a trailing 12-month basis, our adjusted free cash flow conversion ratio was 85.1%, up from December and a record high since we began tracking the metric 5 years ago. Although the integration costs associated with Derma Sciences and Codman Neurosurgery will cause this metric to decline over the next year, these numbers demonstrate that we can consistently generate cash flow that we will be able to deploy to reduce our leverage and strengthen our balance sheet in 2018 and beyond. For the full year 2017, our guidance remains unchanged with operating cash flows in the range of $115 million to $145 million and free cash flow conversion in the range of 40% to 60%.

Please turn to Slide 10 for an update on our capital structure as of March 31, 2017. Our cash balance at the end of the first quarter was approximately $124 million, with net debt of $731 million. This balance includes the borrowings for the Derma Sciences acquisition, and translates to a bank leverage ratio of approximately 2.8x. In late March, we announced the expansion of our credit facility to $2.2 billion through the addition of $700 million incremental term loan with a delayed draw feature. This expansion secured the financing necessary for our planned fourth quarter acquisition of Codman Neurosurgery without incurring a materially higher interest expense between now and closing. The terms of the expanded facility are favorable compared to our expectations of just a few months ago. We will provide additional financial guidance on the impact of the Codman Neurosurgery acquisition as we get closer to the closing date. Based on our anticipated borrowings and 2017 outlook, we now expect our year-end 2017 pro forma bank leverage ratio after this transaction closes to be at or below 4.5x, which we previously communicated would be slightly under 5x. In terms of profitability, this acquisition is expected to be accretive to our adjusted EBITDA margins, and at least $0.22 accretive to adjusted earnings per share in the first full year.

Before turning the call back over to Pete, we have some exciting news, and are announcing that Angela Steinway, who has led our Investor Relations and Strategic Initiatives teams for the last 8 years, is taking a new key role at Integra within our enterprise sales organization. We couldn't be more excited to add a talented and experienced executive to such an important strategic area of our organization. I would personally like to thank Angela for all her dedication and commitment. She has made immeasurable contributions to the quality and growth of our Investor Relations and strategy functions. We're equally excited about her new role in our enterprise group and are confident she will remain a strong contributor to Integra's performance. Nora Brennan, our current Treasurer has been promoted to Senior Vice President, and will take on the Investor Relations responsibilities in addition to her current treasury role. Mike Beaulieu will continue in his role in Investor Relations, and will report into Nora Brennan. Nora is on the call with us today and I'd also like to wish her congratulations. She will be on the road in the coming months, so many of you can meet her personally.

And with that, I'd like to turn the call back over to Pete. Pete?

Thanks, Glenn, and congratulations to both Angela and Nora. If you'd turn to Slide 11, I'll provide an update on our key focus areas for 2017. Our first quarter performance was slightly better than our expectations, and we're on a clear path to achieve our 2017 financial targets of organic growth between 7% and 8.5% and adjusted EPS of $1.88 to $1.94, with double-digit adjusted net income growth. We closed the acquisition of Derma Sciences in the first quarter and are on track to complete the integration efforts on cross-training and sales force alignment by mid-year. And we now have scale we set out to achieve several years ago to achieve our 3x3 advanced wound care strategy. And we have a comprehensive portfolio of regenerative technologies including engineered collagen and amniotic tissue, we can [better] leverage our outpatient channel, which has nearly doubled in size, as well as our established inpatient team and our enterprise contracting group that focuses on large hospital networks. With many of the investments now made, we look forward to accelerating growth in the second half of 2017 and beyond. As I discussed earlier, with respect to the planned acquisition of Codman Neurosurgery, our pre-closing activities are on track and we remain as excited as we were when we announced the deal about the strategic benefits and opportunities this acquisition offers. We anticipate closing in the fourth quarter. And finally, we remain focused on the core businesses. We are executing on our pipeline of new product introductions and global commercial investments. These investments are critical to achieving our organic growth targets, not only for 2017, but also for 2018 and beyond.

And that concludes our prepared remarks. And operator, if you would please open up our lines for questions.

(Operator Instructions) We will take our first question from Robert Marcus from JPMorgan.

I wanted to start, you touched on this a bit in the opening remarks about how you're going to see acceleration towards the back half of the year. But I think the second quarter organic sales growth guidance came in 1 point-or-so below where many on the Street had their models. So maybe you could just help bridge the gap between the first and second quarter organic sales performance, and then maybe give us some specific examples of what drives that to closer to double digits in the back half of the year?

Yes, I mean, I'll comment maybe on Q1 and Q2, then maybe Glenn, if you want to, you can reinforce the second half. I mean, if you think about our Q1 to Q2, it's a pretty good size step-up from Q1 to Q2. But it's really in line with how we've performed thus far, I'd say in Q1. I think about 1/3 of that growth is going to come from SSS, primarily in continued growth in dural repair, and we also expect capital, particularly in the CUSA line to have a good quarter. The majority of the 2/3 is coming from a combination of -- Derma Sciences probably represents about 1/2 of the OTT growth in Q2. And I'd say, the other 1/2 of it comes from products such as the regenerative products, which are skin portfolio, both inpatient and outpatient, we think are going to continue to be strong contributors, and particularly, the outpatient products continue to accelerate, while inpatient remains stable. Ankle and shoulder, both had a very good quarter. We expect that to continue. And then we have some private label business which we think will be there. So I'd say, if you take a look at our Q1 to Q2 number, we feel very good about it. Is there some opportunity to do a little better than that, there is. Keep in mind at the same time, as we communicated on Derma, this is the quarter where we do the channel integration and the territory alignment, and had factored into those numbers already some channel disruption, but feel quite good about that growth in Q1 to Q2. Glenn, maybe you want to talk a little bit about how we think about Q3 and Q4?

Yes, sure. But before I do that, I just want to first highlight that we probably did about 1 point better in Q1. And so while the sequential improvement does not look as significant as probably as most would have modeled initially coming into the year. We're pretty much holding our Q2 plans as we initially thought coming into the year. So you don't see the bigger sequential increase because we outperformed in Q1. As I looked at the back half of the year, and Pete hit on most of the key points about how we're going to see accelerated growth, but it's really the new product launches. Keep in mind, CUSA Clarity is a global launch. So we're expecting to see an uptick in our international business also in the back half of the year. Coupled with the fact, I'm expecting to see faster international growth coming from some of the tenders that we're seeing in Q3 and Q4. You take that, coupled with the reps we're adding here in the first half of the year, that will benefit us in the back half of the year and the combination of all those factors give us confidence we can generate organic growth that will be 8% plus in the back half of the year to get us to our full year guidance range.

Okay. That's really helpful. And maybe if I could just ask a follow-up. It sounds like Derma came in a bit better than expected in the first quarter, maintaining the $60 million outpatient wound guidance for the year. Maybe you could just give us some early thoughts on how the combination between Derma and the existing Integra products are going? How is the offloading booth, the amniotic helping, maybe help sell Omnigraft a bit, and maybe how the value committees are progressing now that you are 4, 5 months into the year?

Yes. So Robbie, a couple of things in there. But I'd say, overall, it's looking to be a very, very good fit for us. If you think about this, the first part is, when you think about a product like Omnigraft and PriMatrix, which we've talked about, until we have some bigger, broader corporate contracts in place that manage type of shared risk scenarios, we're going to have more of a linear increase. The nice part about picking up Derma, as we pick up AMNIOEXCEL, which is a product that is very competitive to any of the amniotic products out there from any of the leaders in amniotic pipeline. So I think we have a product now that, from an amniotic standpoint, is extremely competitive, a high-quality manufacturing structure and operation. And so, we believe we're going to be able to take share within that space. And again, having the 3 different products and being able to actually match up in a broad clinic just on the advanced tissue line, this is the first time we've really had it. So we've talked about the 3x3. This completes it with the 3 products in advanced tissue and now with 3 channels. The other aspects of the portfolio, we really think kind of gives us the girth to be relevant throughout the clinical pathway, meaning from preparing a wound through treating a wound to protecting a wound, we now have products rate that can be used day 1 when someone comes in the door through protecting it on the back end, which is the offloading boot, which we think is going to be a very great product for kind of tying into our line, but also in an account that may not be using Integra, they may be using the TCC booth and the opportunity for that to leverage back into other products looks quite good. At the recent SAWC meeting, we had a lot of interest there as well as at the burn meeting on MEDIHONEY, which we think has been an undervalued asset, and there are some great opportunities to do things there. So all indications, product look really good. And I would say, sales territories, only about 20% of our territories had overlap. Typically, when you do this, it may be north of 50%. Obviously, the higher the overlap, the more disruption. So with less overlap, we think the disruption and territory alignment is going to be a lot more manageable. And when you bring 2 sales organizations together that both have selling capacity, and now they get each other's product lines and become integrated into one, those are the kind of scenarios that are easiest to integrate. And we're in that scenario when you bring Derma with our outpatient group. So it looks quite good from that standpoint. And I would remind you as well, our tissue products run very high gross margin. The amniotic product runs almost identical gross margins to what we would get with Omnigraft. So any of those 3 products being sold are accretive to the company's growth. And so that's a gross margin. So that's a key part of the acceleration in the second half of the year as well.

And we'll take our next question from Matt Miksic from UBS.

So one follow-up on the orthopedic extremities business. Can you give me a sense or maybe help elaborate on, on where in that portfolio you're seeing the growth? You mentioned the ankle, the total ankle. If you could talk maybe a little bit about the rest of the lower extremities portfolio and what some of the drivers are throughout this year, where we are in (inaudible) and then I have one follow-up.

Yes, Matt, I'll comment and Glenn just jump in. I think, there's kind of 4 areas that are leading to growth when you think about OTT. So on the issue side, it really is our inpatient wound matrices that are driving a lot of the growth. And then on the outpatient world, all that growth that we're going to be picking up is all incremental new growth, and that's what we're talking about in the second half. So that's on the issue side. And that's growing -- and that's driving a good 50% of the overall growth within OTT. The other components are coming from metal. And I'd say, this was probably one of the best orthopedic extremity metals quarters we've had in some time, and we're optimistic about what this means in future quarters. But if you look at lower, both Salto and Cadence, which Cadence is extremely nascent in its growth. We think there's lots of opportunities there. We have a new ex fixation product, which is used for ankle trauma. Our Panta Nail system, which is really the leading internal fixation product. All those together, when you're talking about a -- someone who has ankle injuries and you're going to fixate it, you're going to stabilize it, you may go into an ankle arthroplasty, that combined is the portfolio we have, and we're seeing some very good growth. There is also some encouraging news of potentially some increased reimbursement in the Medicare space that we're optimistic may kick-in later this year as well, which would promote the broader segment growth. I then move further up the body to the shoulder. I mean, our shoulder product has performed well. We had a very good quarter with shoulder. We introduced a press-fit version, which others have within the industry. We didn't have. So it broadens our clinical indications for our primary and our reverse shoulder. And we continue to see some good growth and uptick there as well as new distributors coming on board as they're excited about -- on the overall portfolio. Those are really the key drivers. I think, if you think about shoulder, and you think about ankle and metal, just based on the transaction size, they have a larger effect relative to revenue growth in a given quarter. And then, we're making good progress, I'd say with the rest of our plating systems, and expect more introductions and products to come out later this year into '18 as we really kind of colocated our R&D group down in Austin, Texas, and I think we're starting to make some good traction in these areas. Anything else, Glenn, you would like to add?

I'd just say, we had one of our best metal quarters in a long time. Ankle and shoulder had very good performances. Keep in mind, Matt, that outside the U.S., we're off the market now with an ankle. Integra has now discontinued. So once we get to the back half of the year with Cadence launching in Europe, that will help us in terms of our growth. Salto will likely come into the portfolio later this year as well. So I feel more optimistic around the ankle portfolio outside the U.S. in the back half of the year. If I look at the extremities business, excluding ankle and lower extremities, we are essentially flat. So we still have work to do on our foot system. But overall, we had one of the best quarters we had in a while on extremities.

That's great. And I do have a follow-up just on some of your comments, Pete, on the outpatient side. But just, if I could ask one more on the foot and ankle. I mean, you are an important player, obviously, and have been for a long time in lower extremities. Just [give us] any sense of whether the strength is, is this a market phenomenon, is it share gains on your side?

Well, I appreciate you say we've been a strong player. I'd say, we've been one of the key players, but not necessarily as strong as we'd like. And I think what this represents is, when you have a portfolio in ankle that says, you're really the or one of the top 2 or 3 players in that area, and the fact that ankle is probably the fastest subsegment growth within extremities, that's really the combination which is driving it. And I would say, the second part to that I was alluding to is, is we're starting to get the formula worked out here for how to get more products out on a real time basis, and not just for the U.S., but getting them out globally. And I think to Glenn's point, the Cadence rollout is a good example of that. If you can come up with a new product with the right type of global input, and within an 18-month period, get it out to about 15 to 20 countries, obviously, the ramp-up impact is significantly higher than taking 5 years to do it, U.S. first. And that's some of the benefit that we're starting to see. I think on the SSS side, when you look at CUSA Clarity, it's another good example of feedback from markets all around the world, factoring in feature changes, ergonomic needs and then being able to actually launch that product simultaneously around the world, will create greater and faster ramp-ups than we've seen in previous product launches.

That's great color. The follow-up on outpatient. Just one of the -- we hear a fair amount of interest in Omnigraft in the outpatient clinic. You mentioned you experience at these recent meetings and the integration of Derma. I just want to get a sense of, where is -- where are things moving, where are the challenges, is value analysis committees still kind of the hurdles you need to get over, or how far along are you on those kinds of things? Reps -- representation just in certain centers is something that we hear from the field that getting -- just getting rep into detail the product would help a great deal, just maybe some color on that process would be very helpful.

Yes, Matt, I think it's 2 things. One is, you hit on the last point, reach. With only 45, 50 reps versus a lot of competitors that have 200, we're just touching the edge of the iceberg here relative to the amount of opportunities that are out there. So the combination of Derma and Integra to get close to 100 reps, doubling our sales force, is going to have quite a positive impact. And that doubling then is, simultaneously, you're going to have a rep that can go in, that can talk about offloading, can talk about preparing the wound and have 3 different advanced products that they can offer, and actually even bundle that from a contracting standpoint. We never had that before. So that's going to be a big impact. Omnigraft itself, we get very, very positive feedback on its ability to heal, its clinical capabilities, the quality of the study. Where we have challenges is where we've spoken about before, which is in a case where it's a fee-for-service market and someone's using an amniotic product that takes 7 or 8 applications, and are getting paid for each application to use a product that closes in 1 or 2 applications, is an economic disincentive to that particular center. So we're aware of that. And there is other competitors that talk about that. That doesn't mean that our product isn't better for patients, it isn't better for health outcomes, and it clearly is better for reducing cost in health care. So over time, it will be a winner. But we're going to offer any product they want. We have an amniotic product that is as good as any product in the marketplace. And with some future work, we'll be able to bring out new modifications to that. And then at a corporate level, I would say, calling on insurance providers as well as IDNs, the area that Angela is going to with an enterprise and such, we're working agreements at that level to take a look at how we can offer to someone who actually pays for these patients, how they would like to actually heal them faster and do it at a lower price and cost overall. And we think that's going to be a very impactful strategy, but it's going to take some time. And I think, as we get into the second of the year, we think we're going to be able to have some impact on agreements such as that, but bigger impact will probably come in '18. So I'm very optimistic about what it can be, but it's not going to have the same type of a ramp-up as an amniotic-type product would, that's -- that's Omnigraft. But as we bring an amniotic product in the portfolio, we've got the comprehensive align. And now I have double the sales reps. So second half of the year, this is how we expect to have a very good ramp-up, and that's going to contribute to a large portion of the growth that we see in Q3 and Q4.

And our next question comes from Young Li from Barclays.

I guess, the first question, may be just one on kind of the macro environment or the surgical volumes environment in Q1. I guess, maybe can you talk about some of the variances or cadences that you saw in Q1? Were there any changes up or down in terms of just overall surgical volumes?

I'll take a crack at that. I mean, we look at the volumes in Q1, we didn't really see any change in patterns from our customers. I would say it was pretty steady state overall. If you look at our varying businesses in the surgical space, we had a pretty strong quarter overall in our capital business. So we didn't see any slowdown in capital spending. So I would just characterize it as a pretty steady state relative to what we've seen in the past few quarters.

Yes. I mean, the only thing I'd add is that, obviously, there was a lot of communication in The United States going on, is the ACA on, is the ACA off? I mean, I think so much of that happened quickly was in and out, that there was a lot of talk, but when we looked at actual numbers or effect on procedures, I don't think we saw people running to get procedures done nor did we see people putting the brakes on spending, such as capital. It seemed to be, as Glenn said, a pretty consistent quarter compared to how we would have thought about it in '16.

Okay, great. That's helpful color. I guess, maybe a follow-up on the extremity side. Can you maybe provide us an update on the build-out of the Extremities free comp sales channel? Maybe talk about how that's going, the types of reps you are getting, the overall rep hiring environment?

Yes. So if you think about our sales footprint, the first part is the discussion I was just addressing prior is, with Derma Sciences and our existing outpatient structure, we're going to go to roughly about 100 sales professionals. I don't think we're going to add any more on top of that until we show corresponding growth above what those territory levels could handle. So, I mean, that area we're going to be fully staffed. And typically as we bring new territories in, we bring people in. Some come from competition, that want to come to a company that has a more broader portfolio and that they can grow their career. We bring people in from even large and small companies from that aspect. On the inpatient side, we're actually expanding quite a bit additional skin specialists and folks in that area. The reason being is, with the PriMatrix products, with the growth we're having within our bilayer protects, we think that there is still a lot of untapped market opportunity out there. And as -- I think we communicated last call, we're going to be adding a good chunk of resources. We're already well on our way, as Glenn said, and I think in Q2, we'll have training and stuff completed and those reps will start having an impact in Q3 and Q4. And then internationally, we're also expanding our footprint quite a bit. There has already been quite a bit of hiring actually that took place within Q1 in select markets around the world. So we think we're in pretty good shape to have all those folks in place. If you had asked me a few years ago, we wouldn't be taking people from a lot smaller companies. We actually have half of our reps come from larger companies, that really are maybe not happy with the bureaucracy or the lack to be able to be in a dynamic company that's bringing out a lot of new products. And so, we've had the benefit now with some ongoing success and investment in new products to be able to track some really premier sales representatives to join the company.

(Operator Instructions) We will take our next question from Dave Turkaly from JMP Securities.

I know you mentioned CUSA Clarity as sort of a driver here in the back half. I'm curious, would you be willing to give us some color on sort of the installed base? I have to imagine that could be several thousand or something to that magnitude. But sort of what kind of upgrade cycle we could see and how long that might actually last?

Sure, Dave. When we think about CUSA Clarity in the embedded base, it's a couple of thousand units in the field. So call it probably 2,000, maybe a little bit less than that, is the numbers that we have. As we look at that franchise globally, over the long term, it's a franchise that probably grows in the low single-digit range. We think with CUSA Clarity, we move towards the upper single-digit range over the next several years. So it's a multiyear upgrade cycle and probably go out 3 or 4 years. So this is a nice growth driver for us for at least the next 3 to 4 years as we swap out that embedded base. Just keep in mind, as CUSA Clarity is going to ramp-up, there is some cannibalization on our CUSA EXcel product. So as we go through that, while we're expecting growth, we just can't take the incremental revenues from CUSA Clarity without offsetting some of the expectations around what we're expecting from our previous CUSA Capital equipment. But overall, that's the way we look at it. It's a business that's going to grow from low single to high single digits over the next 3 to 4 years. And embedded base-wise, there's a couple of thousand units out there.

I'd just add, Dave, this product is, we're really exited about it. I think it's going to have -- it's got a nice [feature-laden] structure that, if you take features out, you take cost out of the system. As you add features in, you add value and also margin accretion to it. So it's been designed that, in a market like China, it can be featured appropriately with appropriate cost. And in a market in the United States, it may require significantly more capabilities, it can be ramped up that way. And there has been a lot of work that's been put in the ergonomics and capabilities of it. It's a very elegant design. And some of our top users from some of the biggest neurosurgery centers around the world have not talked about this as an upgrade or new system, but really transformational in their hands. And what it can do in actually dealing with some of the toughest tumors that they deal with. And again, part of that is having a cutting device that can really get it out of there quickly, but has the sensitivity not to affect any of the healthy tissue. And that's the feedback that we're getting with this. And I just add to Glenn, there's an installed base of a couple of thousand. There's a lot of competitive units out there, probably have a couple of thousand. And we think this is a product that we're also going to be able to take share with in this marketplace. I think it's -- it also has a platform capability, and to going into other parts of the body down the road. So from an ROI standpoint, from an investment, a product that can be used in neurosurgery, but then ultimately with new indications that will come down the road can be used in other parts of the body. It's going to have a really nice return on investment. And so we're going to take our time with it. It will have to go through value assessment committees at a certain level. It's a couple of hundred thousand dollar kind of capital investment. And so those are the normal things that we would go through. But we feel very good about it. And again, all the initial feedback just from this weekend at the AA announced were very, very positive.

Great. And then maybe one for Glenn. Free cash flow conversion at a record, can you just highlight maybe like what -- maybe the main driver of the year-over-year improvement was? And then sort of as you fold Codman in, what do you anticipate in terms of how that business will look from a free cash flow conversion standpoint?

So in terms of our first quarter performance, 85% on a trailing 12-month basis was a record high for us, and the fact, going back 5 years, since we've been tracking the metric, the highest we've achieved, a lot has been driven by the quality of our earnings. The fact that we've generated higher profitability, at the same time doing a better job of managing working capital. And we've made a really big concerted effort around inventory management. You've seen our inventory really come down, our turn is improving. And I think the result of that is showing up in our cash flow. So those would be the 2 big-ticket items. We're doing a nice job of also managing our capital expenditures. That's come down over the past several years. And the capital that we're now investing is really supporting growth initiatives. So instrument sets supporting our extremities teams, automation in some of our new facilities, that's the type of capital that's going to really generate profitability improvements as we go forward as well as top line improvement. So it's a combination of those factors. But as we look forward with Codman, we're not giving specific guidance yet on what the free cash flow conversion is going to be. The only thing I'd say is, once you move past some of the initial onetime cost for the Codman integration, Codman is a very profitable business. We've mentioned previously, the EBITDA margins within J&J are in excess of 30%. So we're very excited about the free cash flow generation that will come from that business, but we have to move past some of the onetime costs in 2017 and 2018, when we really start to see and reap the benefits from that. And when we do, we're going to be able to quickly pay down our debt and reduce our leverage in a meaningful way.

And our next question comes from Raj Denhoy with Jefferies.

Just a couple of questions, if I could. One kind of broadly on International. I know it's been a focus for you guys for several years in terms of improving that or making it a larger percentage of the business. And I realized that Codman is going to do a lot of this, but thus far, it's still kind of low 20% range for the company. And I think growth there is -- perhaps been a little lower than maybe we're expecting. So is there anything in particular in International you can point to that, that might get the performance there a bit better?

Do you want to take that, Glenn?

Sure. No, so look, we just got back from several weeks visiting various key countries for us in Europe as well as Asia Pacific. I came back much more optimistic and enthusiastic around the growth potential, especially in Asia Pacific. Japan and China represent really key opportunities for us over the long term. Codman does bring a different element to this and accelerates a lot of the growth, especially in areas where we can go direct in certain markets. But we have some very impactful new product launches taking place in some of these markets like China and Japan to name 2, coupled with the fact we can go direct in certain markets. The market itself is expanding. And I look at the opportunities in Asia and say, there is a big opportunity for us to grow our business much faster than the U.S. and also certain parts of our international business. Very excited in Europe about the growth potential there as well. I mean, CUSA Clarity launched in March. Again, if we look at Europe, it's a very mature market, but at the same time with CUSA Clarity now launching in Europe, along with some upside potential with our Tissue Technologies business, which is really in its infancy stage in Europe, I think there is opportunities to partner with certain companies, where we can actually have maybe immediate go-to-market strategy with our Tissue Tech business and generate some growth there as well. So Raj, to your point, it's still around 23% of revenues, but if I look at the growth potential internationally, there is no reason to think we can't see growth in the high single, low double digit range as we go forward outside the U.S.

That's helpful. And just segue into Codman. So it's been a couple of months now since you announced the acquisition. And I think you noted you've been in discussions with some of the various regulatory bodies in terms of antitrust discussion. Is there anything you can update us there? I mean, is there anything from the initial guidance in terms of what the revenue base could look like and the earnings accretion we could expect in the first year, has any of the change from what you've earned thus far?

Yes, Raj, it's Pete. No, nothing has changed at this point in time. I mean, it's obviously, still early with some of these regulatory bodies. We're going through the timing, it's kind of [dreadfully] as we had thought. The commentary and the discussion I would say on the portfolio is as we had thought. And so relative to our $0.22 in the first full year and then accelerate beyond that, nothing has come up that would impact that at this point in time. So I would say, everything is in line with how we've expected. And progressing actually quite well with a good open dialogue with multiple countries as you would expect.

Our next question comes from Larry Biegelsen from Wells Fargo.

It's actually Craig on for Larry. I wanted to follow-up on one of the questions before on the second half acceleration. Obviously, you guys have several drivers to get to that second half growth that's going to be above the full year guidance. And I guess, the question really is, just how -- with all the drivers, do all of those, all of the specific pieces have to hit or do very well for you to hit that guidance or is it more of a -- some products can hit the guidance, some can underperform, and you're still comfortable getting to that growth acceleration?

Yes, Craig. So when we look at our back half of the year guidance, keep in mind, it's not a significant step-up in the first half. We just did 6.4%. If you look at our guidance range for Q2, 6.5% to 7%, it had to be like 1%, 1.5% higher in the back half of the year. We do not need perfection to hit our guidance range to get to the guidance range that we have laid out there of 7% to 8.5% for the full year. We have a number of different shots on goal, to coin the phrase that Pete uses all the time. But we feel very good about our growth in the back half of the year, between the new product launches, the commercial investments that we're making, the international opportunities and the tenders we're expecting to hit in the back half of the year. If we see a lot of these things come together and are positive, we [don't] probably end up at the higher end of our guidance range. But we do not need perfection to get to our guidance range. I think we've got good plans in place. And given where we ended up in Q1, we are more confident now we're going to get into that 7% to 8.5% range for the full year.

Great. That's helpful. And I want to ask a question about the private label business. And I know Pete, I think you mentioned earlier as part -- one of the growth drivers that -- for the second half acceleration. And I think on a previous call, you may have mentioned that there were some agreements that you were going to see come through in Q3 and Q4. So the question really is, I don't know if you've ever put a number to the sales of that private label business, but I wanted to see if you would be willing to share the size of the business and maybe the contribution that you expect from that business in the second half and then going forward?

So Craig, when we look at private label, I'd say this has been a real bright spot for us in the past 1.5 year, 2 years. The growth is actually now in line with our overall regenerative products within OTT. So you probably remember 3, 4 years ago, as we were working through some supply issues, that business was declining. Now, we're really seeing a pick up. And a lot of it has to do with the end-market demand picking up with some of our existing private label partners. Some of it has to do with new private label deals we're entering into. So when we look at the growth of private label, we're very optimistic that that's going to continue as we go forward. But the size of that business, we don't break it out separately. But it would not surprise me if we ended up close to $100 million in business as we exit 2017, just to give you an approximate sizing of that business. There's a pretty healthy growth factor in there, but I think we'll be around $100 million as we exit 2017.

And Craig, the thing I would add is, we have our core business, which is associated with kind of our regenerative platforms that -- things that we don't necessarily sell, but we make for others. There is a portion of it that we picked with TEI. There's even a small portion that we pick up in the Derma world. So when you bring all those together, there's the combination of that, plus just the growth with a new plan. I think we talked about this a lot. We have this new facility, state-of-the-art, prior years, we were 85%, 90% capacity in that plant, You couldn't take any new deals on, we have. And so as we bring those deals on, it's also going to help the gross margin of all of our products that we make in that regenerative facility. And probably the biggest growth lever in the second half of private label is, one of our partners, who I won't disclose, had been off certain markets for a period of time with that product. It's going to be coming back on in the second half of the year. And so that will generate some upside growth as we provide a key component to their product. So when you look at the opportunity to grow, a player coming back on in certain markets, that's why we feel quite confident in our private label business continuing to grow.

Our next question comes from Matthew O'Brien from Piper Jaffray.

Just for starters on the tender side. Glenn, you mentioned those coming in the back half of the year, I'd love to hear about line of sight that you have on those tenders? Are those all or nothing type contracts or can you get a portion of those? What kind of economics would you have to potentially give up in order to make sure you secure those? And how impactful could those be towards getting you maybe to the mid or even high end of your organic guidance range?

Yes. So we have good line of sight where the tenders are. We're actively participating in those offers as we speak. I would expect a couple of those to close here in Q2, but we have line of sight to them. And I would say, it's not all or nothing. In many cases, we have a part of a tender. So it's just going to depend upon how we successful we are with some of them. But listen, a lot of these are recurring tenders, so I have a high degree of confidence that most of them will come to fruition. If we got upside, it would be because we won the vast majority of the tender itself versus a partial win. So I feel very confident that the tenders are going to happen, that we will win at least a partial amount, which would put us within our guidance range. And to your point, if we actually won the full tender, it will actually give us a little bit of uplift. But right now, we're modeling kind of a partial tender within many of these areas we're participating in.

Okay. And then, as far as the amniotic side of the business goes, obviously, you got Derma in the bag now. Is there -- we haven't heard much about your internal product. Are you going to kind of put that to the side at this point? And then, you've got some competitors within the space already. I'd love to hear about kind of your freedom to operate from the intellectual property perspective? And is this potentially a source of litigation for you guys going forward?

Yes. So relative to the amniotic product, we had an internally-sourced product, which we still have, and over time, we'll most likely move out of that product and move into our own manufactured product over time, and work through how we position the branding and such. But at this point in time, we have both. Our sourced product has lower gross margins than our manufactured product, which we picked up from Derma. So as we convert that over, that business will obviously come back in at higher gross margins. But that will be a time period, and we'll do the right things on how we want to transition that and think that will be pretty seamless. Relative to freedom to operate, we're wide open. And we did our diligence when we bought Derma. We looked at the portfolio very, very cautiously. Took a look at all the IP and any claims that people might be making and actually feel quite good, even to the fact that we think we may be sitting on some scenarios where we have a very good position versus other folks that are out there. So I don't see any concerns or issues relative to freedom to operate. That doesn't mean someone can't send you a candy gram in the mail, with what they believe is their view of things. But we feel quite confident in how we looked at the portfolio and our ability to operate.

Our next question comes from Steven Lichtman from Oppenheimer.

Dural repair had another solid quarter. Can you maybe update us on your latest thoughts on the market there, and the drivers that gave you confidence in dural repair growing solidly looking forward?

Yes. Steve, I'd say, Glenn and I have gone back and forth on this. If you know, I've talked about dural repair performing kind of like it's performed in Q1 for some time now. It's right in line with what we have been talking about. It's actually been over-performing in previous quarters. And when you think about the neurosurgery market, maybe growing into 3% range, and this growing in the mid- to upper-single digits, it just makes a lot of sense. What we're having is, again half of the procedures for closing the dura do not use an onlay or they do not use some type of sealant, it's purely suture-only. And as we get more neurosurgeons, in a lot of cases, residents and fellows using onlays and also something like DuraSeal, we're starting to get more and more conversions. So I would say when you look at the out views of growth for the whole market, I think we're going to continue to see a nice, steady, consistent, a few points above what the procedure's growth is for many years to come. And so, that's how we think it is going to be a steady performer. I don't see scenarios wherein given quarters will jump up to 10% or 15% growth or something like that when we first came in with DuraSeal, unless there's some type of market disruption or something that goes on. But we feel pretty good between the combination of onlay as well as sealant, but the market is quite healthy and will continue to perform at this level.

Great. And then apologies if I missed this. But I know last quarter you mentioned adding to the channel in extremities in the first half year. Any update on where you are in that process?

Yes. So we're well on our way. I'd say, we're probably about halfway there. A bigger chunk of the adds are going to take place in Q2. So we talked around 70-plus reps around the world that we're going to be adding in the first half. And I'd say, international plus maybe half of the U.S. resources have been brought on, that some of the increased costs that on onboarding and training and all those kind of things we felt. And the other portion of it is going to happen in Q2. And they just so happen to be ready much OTT-U. S. focused individuals. So we have some associate sales reps that will actually be able help us with metal as we have increased demand in the lower area. And those reps then tend to be a pipeline for senior reps later, so that we don't have territories that -- if there are changes that are disrupted. And then on the tissue side, as I mentioned, adding a good chunk of increased inpatient tissue folks. And the reason for that is, with the uptick we have in IDRT, with the opportunities we think we have with new product growth around PriMatrix and also the broader line, those are reps will get in place in the second quarter and latter part of Q3 and in Q4, we'll start having a positive impact to the P&L. So I'd say, fundamentally on track to have what we had thought about it. And then the previous one I mentioned is that bringing together Derma and Integra outpatient, we're not necessarily adding to that growth, but fundamentally double the size of the sales force, it's now selling twice the amount of products and in the same call point, which is a big deal for us.

And our next question comes from Jayson Bedford from Raymond James.

I'll make it quick here, just a couple. Glenn, private label, you said close to $100 million. Is that a run rate exiting the year or is that for the full year?

It's for the full year.

Okay. I didn't realize it was that big.

Keep in mind, it's been growing double digits now for a number of consecutive quarters. So it's come up from what it was even 12 months ago by a pretty meaningful number.

And seemingly that's a pretty high margin business given the high returns?

It's a high EBITDA margin business, so keep in mind, on the gross margin line, it's lower than our corporate average. But because of the little infrastructure necessary to support that, we have high EBITDA margins coming from that business.

Right, okay. Just on gross margin, it was stronger than we expected despite the bigger contribution from Derma Sciences. So I guess my 2 questions are, one, what was regenerative products as a percent of total sales? And then second, why -- I realized that Derma Sciences is going to get bigger throughout the year, but why shouldn't gross margins improve from first quarter levels?

Yes. So when we look at our regenerative mix, it was around 44%, 45% of our total company sales. So that continues to creep up from the previous numbers if you look at our historical results. We were pleasantly surprised with the gross margins. It did come in higher than we had modeled. So being above 70% with 1 month and a few days of Derma was a very good result for us, but the mix continues to be good. We're seeing really good operational performance coming out of our plants. And so, very happy with how we ended Q1. Just keep in mind, for the rest of the year, having a full quarter of Derma Sciences is 100 basis points dilutive. So to put it into context, we did 70.2%, which had about 40 basis points of dilution from Derma in Q1. So add another 60 basis points to that sequentially, and now you are into the 69.5%-type range going into Q2, all other things being equal. And so we would expect our gross margins to be within the 69% to 70% range for the next 3 quarters. [And this,] could there be some upside? Sure, if the regenerative products continue to do well, there could be a little bit of upside on gross margin. But right now, given the dilution from Derma Sciences, that's going to bring our gross margins down sequentially, but still within our guidance range of 69% to 70%.

Was Derma dilutive to EPS in the quarter?

Yes. Slightly dilutive.

And is expectation still for $0.03 of dilution for the full year?

It is. So consistent with what we said previously, it's still $0.03 dilutive to 2017. And as we get into 2018, we would expect it to be slightly accretive for the full year 2018.

And up next is Jonathan Demchick with Morgan Stanley.

Just had a couple of quick ones on Codman. So Probably 6 months out or so to closing the deal. So first off, I guess, obviously, it's a very involved deal. So I was hoping you could provide a little more color on some of the free work that's being done and also how some early conversations are going with the Codman team, now that they are joining Integra? And then second, I was hoping you could kind of give me a little more color on basically the updated expectations on the leverage ratio at the end of the year less than 4.5 now versus under 5x for guidance didn't really move. So I was just curious what was driving the lower leverage?

Yes. So I'll cover maybe a little bit on the structuring team and then Glenn, maybe you can talk a little bit about the leverage that we announced today. So I'd say from a team structure standpoint, we've obviously, Jon, as you know, done a lot of deals. This would be our largest. But when it comes to how we think about the constructs of standing up the deal, I think I had mentioned before, we actually did a lot of analysis even before we signed and talked to outside experts that have actually done carve-out financials from Johnson & Johnson, so that we can have a very good [fulsome] debate on TSAs to put in place beforehand. And I think our team did a very good job. And candidly, J&J was actually very cooperative and wants to do the right thing for their employees. And it was actually a good partner negotiating that. We've got a dedicated leader who has done significant amount of integration work leading the effort. She is supported by some outside consultancy groups that have done this type of carve-out, have done splits of companies and all those. And then we have, as I mentioned, pretty much about 30 to 40 folks, 30 for sure dedicated that right now been pulled out of fundamentally their day job that are focused on standing this up. So you can imagine every function in the company, some functional areas, additional resources and HR. So we've really gone down that path aggressively to do that. And we had an exercise led by my executive leadership team. We kind of came up with what we called our platinum priorities for the company. As you could imagine, a company of our size may have hundreds of different sub priorities and plans going out through the company. And what we did, is prioritize things down to about 6 for the company. And really in the 20s of items throughout the company, which means we stopped other things. And the reason we did that is so people could focus on 2 things and 2 things only: making the numbers and integrating these deals. And so far, I think, we're well on our way, maybe even ahead of where we thought we had been from an integration process. Glenn and I, every week religiously Friday mornings, we've got a half day, where we go through the deal updates, integration and no decisions go longer than 1 week. That's how we make that process. On the team side, not that I'd say, we're presently surprised, in line with what you would expect from J&J employees, are really good growth. Highly professional, highly well trained, very good strong ethical group. Glenn and I, as you mentioned, just got back from China. We were in Beijing and Shanghai and also Tokyo. Met the teams there, both the conveying group and the non-conveying group and a lot of kudos to the non-conveying team that was extremely helpful in helping us understand exactly how the business was laid out. We've got teams going over there in 1 week that are going to do all the as-is process mapping. And so we will go country-by-country and have all the as-is laid out commercially, how that compares to ours and what the outcome state will be so that no rock is left unturned. But I think people are pumped up. When you talk about a deal like this, many times when you're bring sold off, you kind of feel like gee, why? I think for a lot of Codman employees and a company like J&J, there are so many other things to invest in, that neurosurgery, which tends to be a smaller market, might have been one of the lower priorities consistently. Even though they had really good R&D ideas or commercial ideas, there might have been something that had a return significantly higher. In Integra, they'll be a top 2 or top 3 on everything we do. And I think that message really resonates with the Codman folks. The other observation I would say, is that the fact that the Codman brand is so strong, and the Johnson & Johnson team was, I'd say, wise enough to allow them to go for many years to market as Codman, is really exciting. Here in Japan, the Codman brand is just ubiquitous in neurosurgery. It is known everywhere. And it's not really known as Johnson & Johnson, it's known as Codman. And some of the products you even have to search on the box to find the J&J name. Why is that important? Well, when it becomes Integra, there is no brand and image changes that need to be on products that people use on a day-to-day basis, and that's a really big deal. And we plan on making the Codman brand a very prominent moniker within the company and really a moniker that will represent who we are in neurosurgery. So as Glenn said, we both left more and more encouraged about the different employees in the U.S., which we actually have interactions with the senior folks on a regular basis, obviously, not the commercial, but the senior leadership team. We had good interactions with all the European teams and then just the Asian folks. So Glenn, why don't you talk a little bit about the leverage question?

Sure. But before I do that, I'd first just want to recognize Nora for the incredible job that she did in negotiating this term loan under our existing credit facility with very favorable terms. We are quite pleased on how this ended up and was better than what we had modeled for the deal. When we look at the leverage and coming into the year, we had not completed the actual financing and had all things in place. And so I was a bit conservative in my messaging around leverage, because I didn't know how some of that was going to end up. And ultimately, when we finalized with the banks under the new facility, we got credit from more onetime add backs on EBITDA. We got credit for some additional synergies on the deal. And because of those factors now, we are projecting to be less than 4.5x levered by the end of the year. The good news is, as I mentioned previously, we still expect to have a half a turn or a full turn of delevering each year in the first 2 years and that will become much more meaningful as we get beyond 2019. So I believe now that, as we get towards the end of 2018, we'll be less than 4x levered with our cash flows we're expecting and paying down debt. And probably by mid-2019, less than 3.5x. So our views on leverage with the banks now has come down from what our previous projections were.

And just one quick follow-up. So SurgiMend and PriMatrix, there was weakness here with lower stocking orders last quarter. Heading into this quarter, was there any onetime benefit from broader stocking, or is this more of the normalized run rate that you would expect at this point?

No. No substantial stocking increases. I'd say everything for the quarter was really across the board as I reflect on it, just normal run rate.

And our next question comes from Bob Hopkins from Bank of America.

So just 2 quick follow-ups, because I know we've gone long here. First, just on the private label discussion, Glenn, could you give us a sense for what you -- how you think about the business in terms of a sustainable growth rate over the next couple of years? I mean, obviously, you've had some really good success lately. It's a bigger business. Just how should we be thinking about the growth outlook for that business?

Yes. So when we look at that business, just keep in mind, we acquired some assets that are now part of private label from the Derma Sciences acquisition. But listen, going forward, it's going to be a driver of growth for us. But I wouldn't view it as a key growth driver when we look at our overall portfolio. It's an important part of our business, but obviously, the key part of our businesses are in-source regenerative products that we're selling to customers direct. So as we go forward, we see some opportunities to add more private label partners. But I wouldn't view this as a key growth driver for the company looking out to 2018 and '19, but something that we think we can get some growth in our overall portfolio.

I'd say, Bob, the only thing I'd add to it -- just to add to it is the fact that, where private label will help us build out our own base capabilities, and sell a portion of capabilities or technology in a market that we're not going to go into, we take advantage of it. And there's plenty of those markets out there as Glenn said. But we don't necessarily trying to chase it for non-branded Integra growth. The great part is, we have lots of room I think within the regenerative space to partner with pharma companies, with other med-tech companies on using our technologies as a component within maybe a solution they're working on. And the team has done a nice job of bringing in some new players as well as growing the existing relationship with some existing folks and coming up with some new ideas and extensions and helping fill out the combination of our own products within our new facility and complementing that with private label, it's going to help some top line growth, but it's probably going to have a bigger impact on helping with EBITDA margins over the long run because of its profitability profile and its ability to fill up plants that may not be fully utilized.

Got it. And then one quick follow-up on Codman, and I appreciate all the disclosure and response to the last question. But maybe kind of, I'll ask it succinctly on Codman. I think, a lot of people look at this as a really interesting deal from a long-term perspective, but I have some questions on the potential for short-term disruption given how big an integration it's going to be. It sounds like you're putting a lot of effort into this. But how would you have us look at kind of the -- sort of the first 12 months in terms of your confidence that this won't be disruptive from a growth perspective?

So Bob, just to put a finer point on it, I look at this business and believe that the amount of disruption we're going to have to start out-of-the-box, is pretty minimal. And the reason that I feel that, is the fact that, one, we know the space very good, right. It's in our bones. It's who Integra is. We understand it globally across the board. And why that's so important is, any decision down at even a local level, we have expertise as we're thinking about it. That's one. Secondly, when you take a look at the opportunity for the Codman folks to become part of Integra, in a lot of these cases there's concerns about what this means for me? Why this is a good fit? We're seeing people really energized about becoming a part of a company that can have this type of a comprehensive portfolio within neurosurgery. And so they get it strategically. And I would just say, from a third standpoint, we're just putting in the diligence. I mean, we're really focusing to make sure that we aren't leaving any Ts uncrossed or Is not dotted. And we've looked at where there has been some carve-outs in the past, and candidly, where other people bought some products from J&J, and weren't so successful. And I think we understand where some of those failure modes are, and we've really tried to build the constructs in place to make sure that we don't make the same thing.

I would put a huge premium as well on fact that we actually have the Codman brand. For folks that buy products this wide and you don't get the name, and you have to stand up a structure and you have to call it something different, it just is very challenging. And so that was one of the really important components that we negotiated. And then the last part I'd say, is just the TSAs. I think our team; Maria Platsis, our head of BD; and our whole broader team did a really good job negotiating transition services that in many cases will give us 18 to 24 months at minimum services on a majority of the capabilities, and in some plants up to 5 years to transition. So when you add all that together, the day 1 event actually is not that big of a deal because there are so much TSAs wrapped around it, and then you disperse the integrations out over the next couple of years.

And at this time...

Operator, I've just got to make some final comments, and just thanks for everyone. I know we went a little bit longer, and a lot of good questions. But just to reiterate a couple of takeaways from this morning's call. We feel we had a very solid start to the year, and we remain focused on the 2017 financial targets. I feel quite good about our organic growth of 7% to 8.5%, and that's going to be driven by these core businesses and new product introductions that we spent a lot of time talking about. Second, we're on plan to complete the Derma Sciences commercial integration here by mid-year, the territory alignments and such. And as we mentioned, the Codman Neurosurgery acquisition, we're on track to close in the fourth quarter. Very optimistic as I had mentioned, about these 2 acquisitions and what they can bring to Integra. And the scale and profitability from both of these acquisitions is definitely going to be a long-term driver of value growth for years to come. So again, thanks again for listening and we look forward to speaking with all of you and seeing all of you here in the near future. Thanks again.

Thank you.

That concludes today's conference. Thank you for your participation. You may now disconnect.