Integra Lifesciences Holdings Corp (IART) 2004 Q4 法說會逐字稿

Good morning and welcome to the Integra LifeSciences Fourth Quarter 2004 Earnings Conference Call. [Operator Instructions] It is now my pleasure to turn the floor over to your host, Stuart Essig, CEO.

Thank you. Good morning everybody and thank you for joining us for the Integra LifeSciences Investors Conference Call. I am Stuart Essig, President and Chief Executive Officer of Integra LifeSciences Holdings Corporation. Joining me today are Gerry Carlozzi, Chief Operating Officer, David Holtz, Senior Vice President - Finance, and Jack Henneman, Chief Administrative Officer. During this call we will review our financial results for the fourth quarter of 2004 which we released yesterday afternoon and our forward-looking guidance for first quarter 2005 and full years 2005 and 2006. At the conclusion of our prepared remarks we will take questions from members of the telephonic audience. Before we begin Jack Henneman will make some remarks regarding the content of this conference call.

This presentation is open to the general public and can be heard through telephone access or via live webcast. A replay of the conference call will be accessible starting one hour after the conclusion of the live event. Access to the replay is available through March 28th, 2005, by dialing 973-341-3080, access code 5630772, or through the webcast accessible on our home page.

Today's call is a proprietary presentation of Integra LifeSciences Holdings Corporation and is being recorded by Integra. No recording, reproduction, transcript, transmission, or distribution of today's presentation is permitted without Integra's consent. Because the content of this call is time-sensitive the information provided is accurate only as of the date of this live broadcast, March 14th, 2005. Unless otherwise posted or announced by Integra the information in this call should not be relied upon beyond March 28th, 2005, the last date that an archive replay of the call authorized by Integra will be available. Certain statements made during this call are forward-looking within the meaning of the Private Securities Litigation Reform Act of 1995. Among others, statements concerning managements expectations of future financial results, new product launches, and market acceptance of these new products, future product development programs, and potential business acquisitions are forward-looking.

Forward-looking statements involve risks and uncertainties that could cause actual results to differ materially from predicted results. For a discussion of such risks and uncertainties please refer to the risk factors included in the business section of Integra's annual report on Form 10-K for year ended December 31st, 2003, and information contained in our subsequent filings with the Securities and Exchange Commission. These forward-looking statements are made based upon our current expectations and we undertake no duty to update information provided during this call. Certain non-GAAP financial measures are disclosed in this presentation. A reconciliation of these non-GAAP financial measures to the most comparable GAAP measures is provided in a press release we issued today which is available on our website in the press release section under Investor Relations.

Thank you, Jack.

Integra develops, manufactures, and markets medical devices for use primarily in neurotrauma and neurosurgery, reconstructive surgery and general surgery. Our product lines include traditional medical devices such as monitoring and drainage systems, surgical instruments and fixation systems as well as innovative tissue repair products that incorporate our proprietary absorbable implant technology.

We had strong quarter achieving record revenue and operating earnings. We reported net income of $9.8 million or $0.30 per share for the fourth quarter of 2004. Operating income was $13.6 million for the fourth quarter and $24.8 million for the year 2004. Total revenues in the fourth quarter increased over the prior year period by $2.8 million to $61.8 million. And in the full year increased by $44.2 million to $229.8 million.

Product revenues in the fourth quarter increased by $14.9 million to $61.8 million, a 32 percent increase over the fourth quarter of 2003. Product revenues for the full year 2004 increased by $61.8 million, to $228.5 million, a 37 percent increase over the prior year. Excluding recently acquired product lines, fourth quarter product revenues increased by $9.2 million, or 20 percent over the prior year period. Changes in foreign currency exchange rates contributed [$650,000] to our quarterly year-over-year product revenue growth.

Monitoring revenues in the fourth quarter increased over the prior year period by 9.2 percent primarily as a result of increased sales of our drainage systems and intercranial monitoring product including Camino and Licox. Our Implant revenues in the fourth quarter increased over the prior year period by 38.6 percent as a result of year-over-year growth in sales of our DuraGen Dural Graft Matrix, DuraGen Plus Dural Regeneration Matrix, NeuraGen Nerve Guide Products and CSF Management Products and the direct selling of the Integra Dermal Regeneration Template and Integra Bilayer Matrix Wound Dressing.

In the fourth quarter we saw increased competitive activity on our Dural Grafting revenues. While it is difficult to estimate the impact of the activity we believe the most significant impact is the opportunity cost of product not sold during a one to two-month evaluation activity of a competing product. We estimate the total impact of this activity at between half a million and one million dollars in the fourth quarter. A number of customers have chosen to stock both Integra product and a competing product. Nonetheless organic growth in our Dural Grafting product lines remained in excess of our corporate growth rate target and we're beginning to see customers that had used competing products return to our Dural Grafting products. This is a competitive battle we expect to win.

Revenues from our Instrument Product lines in the fourth quarter increased over the prior year period by 47.1 percent, largely as a result of sales from recently acquired product lines. Increased sales of our Jarit Surgical Instrument lines also contributed to the growth in Instrument Product revenues. JARIT growth in the fourth quarter was in excess of our corporate growth rate target.

Our Private Label Product revenue in the fourth quarter increased over the prior year period by 18.8 percent. The increase in revenues was primarily attributable to the Absorbable Collagen Sponge we supply for use in Medtronic's InFUSE Bone Graft product. Our gross margin on product revenues in the fourth quarter of 2004 was 62.4 percent. This represents the fourth quarter in a row in which our gross margin on sale -- on product revenues has increased. Fourth quarter gross margin benefited from strong sales growth in our higher margin products. Total other operating expenses which exclude cost of product revenue but include amortization decreased one percent to $25 million in the fourth quarter of 2004, compared to $25.1 million in the fourth quarter of 2003. Research and development expenses in the fourth quarter decreased from prior year period by $1.2 million to $3.6 million. This decrease was primarily due to incremental cost incurred in the prior year period in connection with the closing of our San Diego research center and the transfer of many its activities to other existing Integra facilities.

Selling, general, and administrative expenses increased five percent to $20.3 million in the fourth quarter of 2004, compared to $19.4 million in the fourth quarter of 2003. This increase was primarily due to costs associate with the closing of our distribution facility in New Jersey and the transfer of distribution functions to Nevada as well as additional spending on our Enterprise Business System implementation and Sarbanes-Oxley 404 compliance activities. Selling, general, and administrative expenses as a percentage of product revenues decreased to 33 percent in the fourth quarter of 2004 from 41 percent in the fourth quarter of 2003. Amortization expense increased slightly in the fourth quarter of 2004 due to acquisitions.

I will now turn the presentation over to David Holtz, our Senior Vice President of Finance who will provide more information regarding our interest income, tax rate, and foreign currency exposure.

Thank you, Stuart.

We recorded interest expense of one million dollars and interest income of $1.1 million in the fourth quarter of 2004. Net interest income increased slightly over the prior year period. Other income was $2.3 million in the fourth quarter of 2004. Other income included $1.4 million gain related to the change in the fair value of 38.5 million Euro Foreign Exchange Collar Contract we executed in November 2004. This contract reduced our exposure to fluctuations in the euro-dollar exchange rate resulting from our agreement to acquire Newdeal Technologies.

We generated cash flows from operations of $7 million in the fourth quarter and $39 million in the full year 2004. Fourth quarter cash flow from operations reflects an increase in working capital from delays we experienced in collecting customer accounts receivable balances following the implementation of our Enterprise Business System during the second half of 2004. And an increase in the instrument inventories and the buildout of certain product lines in anticipla -- pation of planned facility consolidations. We had cash and investments totaling $196 million at December 31st, 2004.

Our effective income tax rate for 2004 was 38.6 percent, increasing slightly from 37.8 percent in 2003. We anticipate that the reorganization of our European assets earlier this year will lower our effective tax rate in future years. Overall we project a 36 percent effective tax rate for Integra in 2005. We expect our actual cash tax rate will continue to be substantially lower than our effective tax rate as we continue to use our net operating loss carry forwards.

The weighted average common shares outstanding used for the calculation of diluted earnings per share in the fourth quarter of 2004 was approximately 34.8 million shares. This quarter as required by the recently adopted Emerging Issues Task Force Issue number 04-08, the effective contingently convertible debt on dilutive earnings per share. We treated the 3.5 million unissued shares underlying our contingently convertible notes issued in March 2003 as if such shares were issued and outstanding for the purposes of calculating earnings per share. As also required by EITF 04-08 we restated diluting earnings per share for all prior periods back to the issuance of this debt to conform to this new accounting standard. The adoption of EITF 04-08 reduced earnings per share by $0.01 per share for the fourth quarter ended 2000 -- ended December 31st, 2004, and by $0.02 per share for both the fourth quarter and full year ended December 31st, 2003. It had no impact on earnings per share for the full year 2004.

During the fourth quarter, of 2004, our foreign currency denominated costs continued to exceed our foreign currency denominated revenues. We expect this imbalance to continue into 2005.

And now let me turn the presentation back over to Stuart.

Thank you, David.

This quarter organic revenue growth exceeded our long-term objective of 18 percent and our corporate gross margin continued to build in keeping with our expectations. More importantly this year we transformed Integra LifeSciences in the area of Information Technology. Our continuing implementation of an Enterprise Business System will streamline our ability to grow both organically and through acquisitions and strategic partnerships. We have made good on our ambition to accelerate product development having launched significant new products in Dural Regeneration, Adhesion Prevention, Nerve Repair, NeuroMonitoring, Cranial Reconstruction and Shunting for Normal Pressure Hydrocephalus.

We have also continued to cut cost and improve margins though plant consolidation. We have now completed the relocation of our Distribution Facility from New Jersey to Reno, Nevada. We have closed our Pembroke facility, and announced the consolidation of our Spinal Specialties facility from San Antonio into our San Diego facility to be completed in June 2005. We continue to transfer various manufacturing activities to -- to Puerto Rico.

We have also developed alternative applications for our DuraGen Plus Dural Regeneration Matrix Technology. We launched our DuraGen Plus Adhesion Barrier Matrix in Europe and by the end of this year we will begin a Multi Center Clinical Trial suitable to support an application to the FDA for approval of the product in the United States. The DuraGen Plus Adhesion Barrier Matrix Clinical Trial will involve up to 400 patients in as many as 25 centers and will seek to prove that the device can reduce radicular pain following spinal surgery. It will be our most significant trial since the Integra Dermal Regeneration Template was approved almost ten years ago. The DuraGen Plus Adhesion Barrier Matrix Trial will take three years including follow-up and cost several million dollars over that period.

We believe that this investment is more than justified by the products's exciting clinical results already achieved and documented in Europe and the large size of potential market. There are more than 800,000 spine procedures performed every year that could potentially benefit from the use of the DuraGen Plus Adhesion Barrier Matrix. We estimate the size of potential market to exceed $300 million. We are extremely excited about the prospects for this product and believe that if the trial goes well the anti-adhesion application will eventually become the highest value use of the DuraGen Regeneration Matrix Technology.

After closing the Newdeal acquisition in January we have focused our Reconstructive Surgery Sales Force on the extremities with exciting new products in the treatment of wounds and the surgical reconstruction of the foot and ankle. As of the end of this month we'll have over 30 direct sales representatives focused on selling the Integra Dermal Regeneration Template and the Bilayer Matrix Wound Dressing, NeuraGen, NeuraWrap and the Newdeal product in the United States. We have now taken over responsibility for the direct sales of the Newdeal products from Wright Medical. We expect substantial selling synergies and incremental US revenues from the increased headcount in the United States carrying all of our reconstructive product lines. In Europe we have already integrated our selling efforts in Benelux with those of Newdeal and are in the process of leveraging Newdeal's established direct presence in the French market.

As I have stated on previous conference calls our management team continues to seek out external opportunities for growth and any such opportunities that we consummate could affect our results going forward. It is a top priority of our management team to complete significant and accretive transactions this year and next. However, the forward-looking guidance that we have provided does not reflect the impact of any such future ba -- business acquisitions or additional strategic partnerships.

Our guidance for the first quarter of 2005 is for total revenues in the range of 65 to $68 million and earnings per diluted share of 29 to $0.31 per share. We expect total revenues of between 290 and $300 million in 2005 and between 345 and $355 million in 2006. I would like to take a moment to focus on the expectations for each of our product categories for modeling purposes. 2005 revenue growth is expected to be approximately 30 percent. Organic growth is also expected to be strong again in excess of our 18 percent target. That being said, the organic growth is more heavily weighted toward the second half of the year.

Organic growth in the first half 2005 is expected to be below our 18 percent target, while organic growth in the second half of 2005 is expected to be in excess of 18 percent. Monitoring product growth will remain below our corporate growth rate target until there's greater acceptance of the Licox and NeuroSensor advance and our monitoring technologies. We expect to see the benefits of our focused effort in this regard in the second half of 2005. We expect DuraGen to -- growth to accelerate in the second half of 2005 as evaluation of competitive products subside, accounts continue to more intensively use DuraGen in lew of Autograft and spinal applications continue to grow. We also expect significant growth outside the United States in our DuraGen Plus Adhesion Barrier Matrix. In the first half of 2005 we expect a reduction in sales of several of our Private Label Product lines as a result of the termination of our signature OEM arrangement with Medtronic in Q3 of 2004. And the negative revenue impact of price increases we implemented to improve our gross margins of certain Private Label products or the renegotiation of the terms of the supply arrangements. Finally our activities focused on growth of recently acquired product lines will not be included in the calculation of organic growth until late in 2005 or early 2006.

Based on our total revenue guidance for 2005 we expect Monitoring revenues of approximately 53 to $55 million. Implant revenues of 115 to $120 million, Instrument revenues of 100 to $103 million, and Private Label revenues of approximately $22 million. Looking beyond 2005 we expect sales to grow in excess of 25 percent for the Implant product lines and 15 percent for the remainder of the product lines. Overall we continue to target long term revenue growth at 18 percent.

Consolidated gross margin is expected to increase to 64 percent in 2005 and 66 percent in 2006. We are targeting SG&A expense at 32 to 34 percent and R&D at between five and six percent. We expect our earnings to -- earnings to be within a range of $1.38 to $1.42 per share in 2005, and $1.65 to $1.75 per share in 2006. Our expectation ranges for full year 2005 and 2006 earnings per share do not reflect the impact of expensing stock options beginning July 1st, 2005, under the accounting standard recently issued by the Financial Accounting Standards Board.

This concludes our prepared remarks. I'll be happy to answer all of your questions. Operator, you may turn the call over to our participants.

[Operator Instructions] Adam Galeon, Credit Suisse First Boston.

Hi, good morning. Few questions here. First it's encouraging to hear that you said that most of the impact of the DuraGen competition seems to be just trialing, if you will, but you previously said you don't expect any impact from the new competition so what -- what changed to cause that .5 to one million impact? Is that -- is that just share loss or is there some pricing pressure? And then also can you help us understand some of your other comments around that? Does that .5 to one million represent the -- the full impact of competition or are they still ramping up? And when you say lot of docks are coming back are they generally returning to 100% DuraGen? Or what around that?

Okay. Yes, that's a great question. Let me try to cover it because there's a couple different things in there. First of all, I don't think we ever said we didn't expect any impact on our business from DuraGen -- from the competition from DuraGen. I think what we said is we had a great deal of confidence that despite the competition we'd be able to maintain the momentum in our numbers and I think Q4 proved that. And our guidance for this year further underscores that. We've had now about thine months of competition from Johnson & Johnson and somewhere between five and six months of competition from Medtronic and I was quite pleased with the fact that the net impact in the fourth quarter was somewhere between half a million and a million dollars. Said differently, we believe we'll be able to continue to grow DuraGen in excess of our corporate target with the recognition that there is competition out there. And so our guys in the field have done I think an extraordinary job of demonstrating the benefits of our product and in holding off the competitive threat.

In terms of ASPs, we've seen only limited pressure. Certainly our competition does try to why is price to compete but we've seen very limited pressure and so in that impact that we gave you for the fourth quarter, certainly is included any impact of ASPs. But we don't really expect, again, any significant impact on our ASPs going forward. I like to remind people that while on the one hand DuraGen's important to us and certainly an excellent product, a typical DuraGen account is anywhere from $50,000 to, say, $75,000 in a [hospital]. And so when a competitor comes in and says, well, we think we can save you 10 percent, that amounts to $5,000, which is, actually about 20 percent of the typical DRG that one case of DuraGen fits into. So you're not talking about a big savings for any one hospital when you talk -- when -- when a competitor comes in and talks about competing based on some kind of cost savings. The DuraGen time savings is quite significant, on the order of 30 minutes at the end of a procedure.

So what we have seen, obviously, is accounts with good relationships with our competitors, Codman and the -- the -- the Neuro Technologies Division of Medtronic. We've seen them at least want to give the competing rep a trial. It's not a significant number of accounts. We don't want to break out the number of accounts, but we've not seen them have a impact in more than a limited number of accounts. And generally after they've trialed the products, the competing products, we've had the experience that they come back and say, well, that was all very interesting, but we'd still rather work with DuraGen or DuraGen Plus.

Also, keep in mind, we introduced our suturable product, Endura, as a way to ensure that the hospital can, in fact, have on the shelf both a suturable product and a sutureless product which differentiates us from the Johnson & Johnson folks who really can't offer a that and from Medtronic who has tried to combine those features in one product. So net net these are good companies we compete with. And we compete with these companies in virtually every one of our product lines and we've been able to grow our Neuro business dramatically over the last five years in competition with those guys and think we can keep doing it.

Great. That's very helpful. Then maybe if we could just spend a minute on the acquisition strategy and where we stand. Historically, it seems like your -- your strategy centered around your -- your core focus in Neuro. Of late, you seem a little bit more optimistic acquiring some more higher tech proprietary products in areas like orthopedics. And I think at around three times revenues for -- for Newdeal, you paid a little bit more than you generally have in the past. So how do we think about where that strategy stands today? Is neuro still the focus? Or now, have we exhausted most of the low hanging fruit there and have we just moved more toward being more optimistic with more proprietary stuff?

Okay. First of all let me talk about Neuro. Neuro continues to be the majority focus of the company, rough estimation about two thirds of our revenue and I certainly expect that to continue, I certainly expect our acquisitions to continue. In no way have we exhausted the opportunities for acquisitions in Neuro. If you do some, back of the envelope analysis we think we've got about a 20 to 25 percent market share in about the half of the segments in the market that we compete. So if you figure the specialty neuro product categories are roughly a billion and a half dollars, we think we only participate in about half of that market. And then if you look at that half, we think we've got somewhere between a 20 and a 25 percent share. So there remains something on the order of ten categories that we do not have a significant participation in, in Neuro, and there's probably a good 50 small companies that could give us entrees into those categories. So nothing has changed. And I think as -- as we roll out this year you should expect to see two or three Neuro acquisitions assuming we're successful in our abilities to close those acquisitions.

As it relates to getting outside of Neuro that's been really a two-year phenomenon. We felt it was wise to backward integrate into Instruments and we did a series of smaller integrate -- sorry acquisitions of instruments and then acquired a market leading instrument company, Jarit, which has now made us the number two in the United States in surgical instruments. That is not predominantly a Neuro call point but follows the same philosophy that we've followed which is the the focus on niche call points. While general instruments are used by many different people in the hospital the actual call point is the sterile processing department and the purchasing department and so by acquiring Jarit we've given ourselves immediate entry into what they call the carpeted areas of the hospitals. And we've seen the benefit of that, not just in the rapid growth of Jarit, which I'll point out was a very fast-growing segment of our business this quarter, but also in Jarit having a pull-through effect for other product lines where we can go in and present the company as a fully integrated company with a broad product line.

Now, lastly, it was only a little over a year ago when we set out the ambition of building a new segment for a new sales category around the Integra Skin that we took back from Johnson & Johnson. And we had bre -- previously acquired Paget Instruments, a surgical instrument company, focused on reconstructive surgery. We successfully launched the Integra products and our new BMW-D Bilayer Matrix Wound Dressing through the small sales force that we had assembled. And then we found a great opportunity to dramatically increase the selling ac -- ac -- activity in both the international market and the United States through the acquisition of Newdeal.

And so Newdeal, very similar to our historical acquisition strategies, Newdeal was a multifaceted acquisition. First of all we pay three times revenues but bear in mind we paid less than our typical operating profit or cash flow multiple. I believe we paid about seven times operating cash flow. So we bought a very profitable company and a well managed company. And it's terrific when you can acquire a company that's well managed, doesn't require a huge amount of work and very quickly allows you to capitalize on their opportunities. So we acquired that business as of the beginning of this quarter so none of those results are reported in Q4. What I can say is we have been absolutely delighted with the management team, with the enthusiasm. We've already integrated our Benelux operation so we went direct for our Neuro products through their Benelux sales and marketing organization. They're in the process of taking responsibility for the Integra and the NeuraGen in France and we are looking for many other opportunities for this new successful European operation to help us leverage our business.

Keep in mind one of our objectives in 2005 was to significantly increase our sales management activity in Europe. Our sales are still only 21 percent OUS. We are very under-representative -- under-represented in terms of our revenues particularly in Europe. And so having acquired Newdeal there are just a whole host of opportunities to leverage their selling organization as opposed to further trying to build ours from scratch. Now, in the United States, we really feel that having a larger sales organization to sell the Integra Skin and the NeuraGen and the NeuraWrap and other products is critical to that success and we've spoken the last quarter of a scale-up in sales activity. Newdeal gives us yet another profitable way to scale up sales activity and so we expect to finish the first quarter with on the order of 35 sales reps, clinical people, and sales management people and hope by the end of the year to add anywhere from another 10 to 20 reps supporting the Newdeal Skin and Nerve products. So while sometimes our transactions seem a little bit far afield, actually I believe they absolutely follow a very clear strategy which is to acquire profitable, accretive companies that allow us to leverage, in particular, selling tissue engineered products.

In terms of the acquisition criteria, they haven't changed at all. We're typically looking for companies that are profitable, are accretive to our earnings, and are relatively small. It doesn't mean that at some point we won't or can't acquire larger companies. Newdeal was our largest acquisition in terms of purchase price. But generally we like companies with niche markets and niche opportunities that are profitable and that allow us to leverage overhead and leverage infrastructure. The multiples that we generally intend to pay remain in the one to two times sales and in the five to nine times operating profit, but as I've said before, there's sometimes going to be exceptions to that rule. Newdeal was on the one hand expensive by the revenue metric, but on the other hand reasonably priced on the operating profit metric. So hopefully that long answer to your question covered a lot of topics.

Very helpful. Thank you very much.

Dave Turkaly, W. R. Hambrecht.

Hey, Dave.

How are you?

Good.

Good. If we look at the -- the Operating Room -- sorry, the Implant business, the results for the quarter, was there anything else other than DuraGen in the quarter that was below your expectations, or was that really the only source of any, downside in the quarter?

No, interestingly, I'd say a couple things. First of all, there are actually several things in that -- several lines in that category that were not up to our expectations but none of them that we would draw a trend from. In fact, one of the things that I feel is the strength of Integra's business is the -- is the broad base of business and the diversification. So Instruments sure supl -- sure surprised us on the up side, and the Operating Room category surprised us on the downside.

The most significant aspect was DuraGen, but if you look at, certainly it was not the entire impact in terms of the performance of the Operating Room category versus our own expectations or versus prior year. So you should not interpret whatever the variance was between the -- the implicit guidance that we've given in prior quarters and what we per -- perform to be all DuraGen. It was a variety of things but none of which we thought were notable, and most of which we expect to then outperform in Q1 or Q2 as we go forward. So DuraGen was the only one we thought noting but it wasn't all DuraGen. And I'll tell you, Instruments, with the kind of growth that we saw in Instruments, is not the kind of growth that you could anticipate indefinitely going forward. But, is one of the things I think is a real strength of our diversification across these different product categories.

I got you. Was there anything -- how about this, just to -- ask at different way. Was there anything else sequentially -- do you think anything else in -- in Operating Room was sequentially down from the third quarter?

Well, again, I don't really want to break out all the products but yes, there certainly were things that were sequentially down. But then again, you're talking about things calculated in the hundreds of thousands of dollars.

Okay. On the other income did -- I know you mentioned the one part. What was the other part of that, the 900?

Every quarter -- okay, let me back up. We do not hedge our foreign exchange exposure, which as you know is significant. We do not run an operating hedge. The net impact of that is when foreign exchange moves in one direction or another, you see the impact of that in the expense line. So, for example, gross margin is a little bit lower than you'd hope, operating profits -- sorry, operating expenses are a little bit higher than you hope, and you see those show up in the various expense lines. But then you see the opposite happen in the other income line as our assets in particular, for example, cash that sits in Euros gets revalued upward.

And so, for example, we keep a balance of cash in Euros on the books which is used to buy instruments in particular over in Europe. And so when the foreign exchange went against us in the fourth quarter, on the one hand it hit gross margin, and on the other hand it caused a revaluation of our cash upward in the other income category. So it's our point of view that the net impact of that is the real economic impact on our P&L. So that's why we called out the operating -- that's why we called out the foreign exchange hedge that we put on the Newdeal deal as separate from the translations in the balance sheet.

It's very complicated but the point is as long as you see the Euro moving against Integra, you're likely to see pressure on gross margin, increases in operating expense working against us but other income working in favor of us. The opposite will be true when and if the Euro starts to depreciate. That will leverage our gross margin, that will leverage our operating expenses, but will have a negative impact on the other income line. And that is by the way, why many companies choose to hedge, is to get that out of the numbers. And eventually we may choose to hedge, but we're -- we're frankly so busy running the business it doesn't seem worth the time to just hedge financial risk.

I got you. Two -- two last really quick ones then I'll let someone else have a chance. On the -- the Private Label really strong again, Ortho Biomaterials I know you point to. Is that something you think -- I know there used to be some visibility there when you're looking forward, I think in terms of what that must have done in the quarter, it was a really big increase sequentially. Can that continue? Is that a new base kind of the 6.7 million for Private Label? Is that sustainable, or how should we be looking at, those products going forward, and where do you stand on any share repo? I can't remember if you have any out. Thanks.

Okay. Private Label, I would say no, you should not build the 6.7 million as a base. It was a very strong quarter, it was particularly strong in the Orthopedics but it also was strong, for example, in some of our other product lines. Some of the other product lines though, that strength, have to do with the end of the year and the fourth quarter and the contract that we hold. So, no, I don't think you can draw a straight line. We actually gave specific guidance in our forward-looking guidance of about 22 million for the Private Label products. And in fact you can expect that to be weighted down in the first half of the year and up in the back half of the year because many of these contracts remain back end loaded.

Also just in terms of sequential -- sorry, in terms of year-over-year will you not find the signature OEM agreement with Medtronic in this year's numbers. And that represented, last year, something on the order of six to $700,000 a quarter for the first two quarters which will not be there this -- this first half of the year. So again, there's a lot going on in that Private Label line, and I think a reasonable expectation for next year would be the $22 million, again back end weighted to the back half of the year.

Great. Thanks a lot.

Oh, also, Dave, you asked about share repurchase. We do not currently have a share repurchase authorized. As you know, we did repurchase half a million shares last year but we do not currently have a share repurchase authorized.

Okay. Thanks a lot.

David Zimbalist, Natexis Bleichroeder.

Hi, Good morning. Could you talk a little bit about your gross margin? You talk about it being up due to product mix and yet Instrument sales as a percentage of the total were actually up. Could you talk a little bit about -- a little bit about what may be going on in Instruments? Is the margin in that business starting to pick up as well?

Couple of different things. First, there's a number of things going on in the Instrument category. There's a reasonable chunk of our Instrument business -- . I would back up and say we do ourselves a disservice referring to this large category as Instruments. And I think over time we'll find a way to, A, give at better name, and B, show some of the -- the components. Because while we call it Instruments, there's a lot going on in Instruments. For example, our Ultrasonic Aspiration Business, our Mayfield Headrest Business, those are big chunks of the -- what we refer to as Instrument categories that have margins in excess of our corporate gross margin. So one tends to think when we talk about this roughly hundred million dollars of Instruments of the Jarit instruments which do -- do run below the corporate margin. But there's a lot of that business which is fast-growing, like the Ultrasonic Aspirator, like the Mayfield Business, like our Neuro Instrument Business, like some of our other parts of that category that are growing fast and that leverage our direct sales organization and that have very high margin. So keep that I know mind.

The second thing is generally our gross margin is positively influenced by the growth of our tissue-engineered products including DuraGen, Skin, ACS, NeuraGen, and those continue to be very strong performers well in excess of our corporate organic growth target. And so as long as those continue to grow quickly those are going to influence the gross margin in a positive way.

Finally, keep in mind that about 60 to 70 percent of every product we sell is overhead. So there is substantial leverage in simply selling more of any of the products that we manufacture because the incremental cost is relatively low. And you -- you will start to see going into the new year some positive impact from the various plant closings. As I mentioned in the past, the primary beneficiary in our P&L statement from these plant closings in the first year is G&A. It's only later when you work through the inventory that you're going to see inventory absorb more overhead if you move a particular product line from one site to another.

Okay. Speaking of that, you talk about SG&A being up year-over-year on an absolute basis due to essentially project related expenditures. Can you talk a little bit about what SG&A did underneath, especially -- you usually break out sell, marking, G&A, a little about some of the changes there, and, if there's -- if there are any projects for 2005 that we're going to see some continuing spending for, Sarbanes-Oxley, relative to, getting compliance in 4Q, the ERP System, et cetera?

Okay. Couple different things. 2004 was really quite a building year. And we put a lot of money into, for example, Sarbanes-Oxley. I think we estimated our outside consulting costs on SOX so just the outside, not the auditors, and our internal expenses, to be on the order of a million to a million and a half dollars. We don't expect that to recur in 2005 to that extent. We have built up our internal audit department and we have certainly planned to continue to be highly compliant and in line with our -- our obligations under SOX but we don't expect that kind of project costs in the new year. I think rough estimate on internal audit we've estimated about half that number included in our guidance for 2005.

We also had significant spending on our Oracle ERP implementation. Total cost of that project is about 7 to $8 million. The bulk of that does not hit the P&L right away. It actually gets capitalized. But we have in 2005 included our expected anticipated amortization of the capital that got put up on the balance sheet from the software development. So you are seeing some element in the G&A that we've given you in terms of guidance for 2005 of the Oracle implementation.

The last thing is in the fourth quarter rough order of magnitude there was probably $750,000 of excess spending on the Reno, Nevada move. And that involved the -- the shutdown of our New Jersey distribution facility and the start-up of our Reno, Nevada. Basically we had to run the two facilities simultaneously for a quarter as well as pay out severance and write off various non usable activities. So it was probably $750,000 in the fourth quarter of that.

What we tried to do on a going forward basis is give you guys a range, 32 to 34 percent on SG&A. I would say just in terms of Q4, sales and marketing was pretty much in line with where we had hoped it would be. It was G&A that was a little bit higher than we had expected, and again what I just told you was the general reason for that. So I think that answers the question. I don't recall if there was a second question embedded in there.

No, that was helpful. Two little things. First, you talked about extremities and how you're refocusing your Reconstructive Sales Force there. What are you going to do to maintain the business in the Burns and Scar Reconstruction? And then just a date of point, you've given us the amount by which your foreign exchange denominated cost exceeded sales, do you have that number?

Yes, actually great question on the Skin. And that's very important. We have recruited and will continue to recruit clinical educators. So basically nurses those whose job it is, is to work the account that have the big burns. And you're exactly right. They need to be worked intensively or you lose them. And so what we'll be doing is certainly leveraging the larger sales force which will give more visibility but those guys will be spending less and less time in Burns and it will be important for us to have a nursing group to continue the focus on the Burn area so that's -- that's absolutely right and that's built into our expectations going forward. And frankly in Europe we need to build out that capability for us to grow the business and we haven't really done that yet. We have a nurse in England and interestingly that has a big interest on our revenues in England. We don't have nurses in some of the other markets and therefore you don't see the revenues there. So it is important.

In terms of exposure, David and I estimate it's -- it's about ten to 15 million. It is actually a little bit harder to estimate going into the new year because we have to anticipate the revenue growth of Newdeal which, keep in mind, is making a very good profit and making it over in Europe. And so that will reduce our exposure to some extent against the Euro. But I think, order of magnitude, if you want a point estimate it's somewhere between ten and 15 million exposure. We did build into the guidance that we just gave you one Euro 30. So 1.3 as the exchange rate, which frankly when we did the numbers a few weeks ago, looked like a conservative rate. If the stays at 1.34 then we're not as conservative as it should be but it's not a big difference.

Thank you. I'll get back in line.

Bill Plovanic, First Albany Capital.

Hi, Stuart. Just a clarification. On the Private Labeling, did you put in a price increase at the end of the year and that's why there was some stocking? Is that what you're telling us? Or (inaudible) price increases a year ago?

No, we do put -- no, no, we do put prices up at the end of the year, that's true. That's not the main reason. The main reason in Q4 was not stocking to of ACS, it's just what their demand was. So that was not the main reason there. And then in terms of our older Private Label we have one particular customer that has annual minimums and they bought in the minimum at the end of the year, and that was a significant amount which won't recur going into the first and second quarters.

Okay. And then on the sales and marketing in the G&A do you -- do you have what those line items were? Because you have broken it out in the past.

Yes, we're going to start reporting them combined, but I believe we have them, Dave, that -- what is it, 13?

13.1 million for sales and marking, and 7.2 for G&A.

Okay. And it was the incremental expenses of the move to Reno for the distribution center in the Sarbanes-Oxley that's really the reason for the G&A being up? Is that what you're saying?

Yes.

Okay. And can you walk me through the number of plants -- I think you've mentioned you go pretty quickly in the beginning there, Stuart, (inaudible) I'm sorry, I can't keep up with you sometimes, but what -- what are you closing down in '05, what do you see positively impacting the P&L, and what -- what was closed down in '04 that you should see rolling through into the gross margins in '05?

Okay. Quick, tour de force of the Integra plants. The U.S. actually has been very well consolidated. Out on the west coast we have one site. That site includes what used to be Camino, for those of you who have visited Camino on one of our investor meetings. The Corporate Research Center has been shut and the various activities there have been integrated either to that site or other sites. And we are in the process of shutting the Spinal Specialties Facility which was down in San Antonio and moving that manufacturing to San Diego. That's a new activity. We actually announced this to employees earlier this year but we haven't mentioned it yet to the financial community. That's happening as we speak and will be done by June. So the west coast will consolidate certain research activities as well as what was the old Camino plus Spinal Specialties.

Now, move your way east and you'll find our Corporate Headquarters. You'll find our Collagen and other Tissue Engineering Manufacturing in New Jersey, and of course I went too far east. And you'll find in Las Vegas our Reno -- sorry, in Reno, Nevada, our Distribution Center which is now open. And in New Jersey we've shut our Distribution Center. Now, down in Puerto Rico is increasingly our manufacturing activities, surrounding both the packaging of the Tissue Engineered products as well as most of our Silicone manufacturing. In Ohio, you'll find the former Mayfield facility and integrated into that facility is the Pembroke manufacturing of Cranial Plates and Screws. Very similar technology and manufacturing between manufacturing in the Headrest and the Cranial Plate and Screw System.

And then finally in Hawthorne New York you'll find all of our instrument procurement for all of our instruments now including Jarit, the Paget, [Redman] Ruggles, all of our instruments are now done out of one site. So we've gone -- I think we've shut somewhere between eight and ten sites over the last three years in the United States and we're down to essentially, five major manufacturing activities.

Over in Europe we've not done any significant consolidations and we're certainly looking at what our opportunities are there. But again as we are very experienced in doing this in the U.S. and less so over in Europe we've been somewhat cautious in our consolidation activities there. That being said, we've not been cautious in taking costs out, and for example, several of our sites have reduced headcount and improved efficiency in the last 12 months. So to -- to their credit in Europe they are ahead of the curve although I think we have more to do over there.

In terms of planned activities for 2005, at the moment, the only real significant one is the shutdown of the Spinal Specialties manufacturing and the move to the California site. There's a lot going on in terms of moving production and packaging into Puerto Rico but that won't involve the shutdown of any of our US sites, it will only involve the move of certain high-labor content activities down to Puerto Rico.

And in terms of seeing the benefits, again, a good rule of thumb is you see the cost first and you see them in the first or second quarter after we announce these, and these are all G&A related for the most part. And then somewhere around six months to nine months you'll start to see the cost of goods improvement as we work through what is generally somewhere between two and three-quarters of inventory. And you do see builds in our inventory because we certainly don't want a supply disruption in the context of a plant move.

Okay. Great. That was helpful. And then, help me out here. I'm reading through the press release, and I look at your net income line of 9.8 million in your shares outstanding of 34.8 million. And if I take the 9.8 million and divide by the 34.8 I come up with $0.28. What am I doing wrong?

In a nutshell, remember that because of the new accounting principle where you have to count the convertible bond as fully diluted, and, therefore, include the 3.5 million shares underlying the convertible bond as fully diluted. Then you also need to add back the roughly million dollars of net interest inco -- net interest expense underlying that bond. So what you do is you take the -- the net income and then add back a tax-affected million dollars, and then divide by 35 million shares.

For the fourth quarter that add-back was 600,000.

Okay. So it's really 10.4 million divided by the 34.8 is what you're telling me.

Yes, yes.

And we prom miss you we're doing it right under GAAP, but, yes, it makes it harder to do that calculation if you don't understand that little fact.

Okay. And then last two questions. Endpoint for Adhesion Barrier Study, clinical trial, then lastly just your thoughts on Newdeal and kind of where, how is that integration going thus far and where are you going from here? That's it. Thanks.

Okay. On the Adhesion Trial, we do not wish to share the endpoint, because we believe that will be proprietary. That being said, the end points are going to be similar to what you've seen in prior trials which have to do with adhesion masks, radicular pain, and other things but we don't really want to share that information and we think that's going to be, in terms of our regulatory strategy, something we'd just assume keep proprietary. As we start to roll this trial out we'll certainly choose, as we did at our last investor meeting, to provide information on this -- on this trial to you guys, and candidly it's one of the most exciting things we've been working on for the last six months.

In terms of Newdeal, we're having a lot of fun with Newdeal. I'm looking around the room here. Every one of us, with maybe the exception of David, have now been out in hospitals, in cases, for these foot and ankle cases. And I've got to tell you we bought a [expletive] of a good product with Newdeal. The name recognition with the foot and ankle surgeons is very real. We keep getting told that the fit with our BMW-D is very, very clever. Frankly, it may have been more clever than we even appreciated when we did the acquisition. But there is no shortage of interest in the wound applications of our technology. And interestingly a real surprise for me was a little maxim that foot and ankle surgeons say which you cannot do a foot and ankle procedure without cutting a nerve. And I thought that was very interesting. I will honestly admit did I not know that. But what it means is any one of them is quite interested in hearing about NeuraGen and and NeuraWrap and the ability to have a -- a positive impact on patient pain and patient efficacy.

So there's nice synergy both clinically and it's's letting us hire sales people. And those sales people are going to drive the revenues. So performance is good as I said, we had alluded to scaling up the sales force. I think we're very much on track to being at 40 or 50 by the end the year. And having now personally spent time with those sales people, I mean these -- these are really good people and we're excited to have them on board.

Great. Thanks.

Amit Hazan, SunTrust Robinson.

Hello.

Hi, good morning guys. Just a couple final follow-up questions. First, again, with regard to Newdeal, on -- on gross margins we -- I had thought that their product -- their corporate average was closer to 70 percent and the fact that they offset your international exposure might give you some positive bias to [54] percent margins you earlier set for yourself. Is there -- what is offsetting that? Is that the higher FX rate you're looking at this quarter?

Yes, again, just to clarify, Newdeal was not in our numbers in Q4 so what you you're really asking I think is about Q1 and going forward. Newdeal gross margins are higher than the corporate average so should drive the corporate average up but when we re -- when we re-ran the model for our forward-looking guidance we moved the exchange rate on the Euro to 130 up from I think last time we did it it was in the mid 120s. And when you think about that, it -- that actually benefits us when you think about Newdeal but unfortunately we still make and buy more over in Europe than we sell.

Okay. And then just another real quick question on DuraGen competition, you -- you said earlier -- I think I heard you correct, that your average account is about 50 to 75,000. Is that right?

Plus or minus. I -- I wasn't trying to give you a specific average. I was using it as an example. These guys can look and see if that's roughly the number but that's not a bad number.

It goes more just trying to figure out kind of back of the envelope what the impact per -- per lost accounts may have been with what you said about Medtronic. It looks like it's about 10 to 20 account. Is that kind of a good back -- back of the envelope number to use?

I don't really want to answer that because I would venture to guess since these calms are made public that it will eventually end up in one of our competitor's hands. I don't want to give you the answer to the number of accounts we've lost. But as I continue to say it's not a significant number. I would add it's a moving target since we're getting them back.

Okay. Perfect. Then lastly, with regard to Newdeal, again, the Wright Medical Distribution Deal, maybe just given us some color on when that -- when that ended and then how you're looking at taking over those sales, if there's going to be impact in the transition, et cetera.

Yes. That's a very good question. First of all, we didn't discuss it on the last call because it was nonpublic information that we were under contractual relationship with Wright. We are no longer in contractual relationship and that ended around the middle of the quarter. So we took over selling responsibility in the middle of the quarter. Now, when I say we took over selling responsibility, keep in mind this is a competitive battle, and it's not like the guys at Wright are going to just hand it over to us. So when we've built our guidance going forward the vast majority assumes we continue to maintain the European sales of Newdeal. We feel very little conversion of the Wright business into our US numbers. So we will have to earn that business. We will not necessarily -- we will not necessarily be handed it.

And had what do I mean by that? Well, Wright, at the termination of the agreement, in fact, had a reasonably substantial amount of inventory on their balance sheet. And under the terms of the agreement they had the right to sell that inventory off for a reasonably long period of time. And so they can sell that inventory into what they perceive is their accounts. Now, we can go into those accounts and say, well, we'd like you to be our customer, and that's the fight we're going to have. We have sales people who are saying we'd like you to be our customer, they have sales people who they are going to say to that same doctor we would like you to be our customer. And eventually we expect they're going to want to switch those customers over to the Carolinas System that they showed at the most recent AAOS and Foot and Ankle System and we're going to want to persuade the customers not to switch.

So from our investors perspective you can have some confidence that we did not build a significant revenue stream in this year's numbers in the United States from Newdeal. That being said, like in all aspects of how Integra participates in the market we intend to compete very aggressively. And we absolutely intend to build our customer base with the Newdeal business and that will play out over time.

Okay. Thanks very much.

Pat Parr, UBS.

Great. Hey, Stuart.

Hi, Pat.

Glad to see you're starting this Adhesion Barrier Trial. Just a question on R&D expense. Is that already built into your guidance going forward for R&D expenses or will the cost of the trial be on top of what you've told us the five to six percent?

It's built into the guidance. Obviously as the trial moves along it will mean that R&D -- the component of R&D attributable to that trial will go up which will probably drive us towards the six percent. But it's already built into our numbers and our expectations.

Okay. And as far as the -- the three-year time line is that assuming -- is this going to be a two-year follow up post implant?

We're expecting a three-year time frame and we're really thinking about starting the trial toward the back half of this year and yes we expect the two-year follow-up to the trial.

Great. And then just one other question. On your -- can you just talk about what's going on with your NPH Valve?

Yes, we're real excited about NPH. Thank you for asking the question. The NPH Valve gives our sales organization an opportunity to talk about Hydrocephalus that they haven't had for years. We -- we really did not have the technology point of leverage prior to this. And now our 80 plus sales people plus our management group and clinical people have something interesting to talk about in NPH. We saw that in the -- in the fourth quarter. We sold a significant numbers of valves. That represented a significant piece of growth in the Hydrocephalus Business. It also opened up accounts to us for our other products in Hydrocephalus that we could not have had access to. And so we're expecting that to grow in the -- in the new year 2005. Certainly, as the year has begun already the interest in our sales force and our customers for the NPH Valve is very real.

great. Thanks much.

Jayson Bedford, Adams Harkness.

Hi. Good morning, guys.

Good morning.

Just a few quick questions. First on the cost infrastructure here. Are you still paying the Mayfield dealers as well as your own sales force on Mayfield -- Mayfield sales?

Could you repeat the question? We couldn't hear you.

Sorry. Just on the cost side of things, Mayfield distributors, are you still paying those guys as well as your internal sales force on Mayfield sales?

The bulk of the spending on the Mayfield Dealer Network where we do -- we paid them simultaneously with our own reps was complete by the end of third quarter of 2004. So there was a big chunk in Q2, there was a trail in Q3, and I think we have finished paying everybody, essentially, by the end of third quarter or into the first month of fourth so there was not a significant amount in the fourth quarter.

Okay. Perfect. And then on the Reconstruction Sales Force you said 30 reps I think by the end of this month. How many did you have by -- at the end of fourth quarter?

I think we had -- hang on. I have that number here. At the end of the fourth quarter we had 18 direct reps. And four managers and one clinical specialist and we expect to finish this quarter with 33. So 33 versus 23, so up ten in Q1.

And then just looking at your guidance, if I'm doing my math correct, you're looking at Instrument growth of about 30 percent. I realize that all of that is not organic but it definitely seems to imply an acceleration in organic sales -- or in Instrument sales. Just wondering, where is that coming from?

Well, again, you have some lapping of the years from acquisitions, because remember we have IME and several of other things we acquired there. The main bulk of the organic growth that we're expecting in Instruments is coming from Mayfield and coming from the Ultrasonic Aspiration lines, as well as Jarit, which continues to grow well in excess of our 18 percent organic growth target. So I would say those three things, Jarit being a stellar performer, and then sold to our Neuro Group, the Mayfield and the Ultrasonic. That's why that category continues to outperform what we said were our longer term expectations at 15 percent.

Okay. And then just on the Operating Room or Implant Segment, what's your organic growth rate implied in this 115 to $120 million revenue estimate for '05?

It's all organic.

I think you just to have do the math and it will all be organic. I don't have that number but there -- I don't think there are acquisitions because we would back out the Newdeal from the year when we did that calculation.

All right. But the 115 to 120 includes Newdeal, correct?

Oh, I see the question. Dave, do you want to try to do it? I think you just have to back out roughly -- what's the number, Dave? You have it?

Yes. It's about 25 percent without Newdeal in it.

Okay. Got that? About 25 percent without Newdeal.

Okay. That's great. And then final question, I think you've mentioned the past you're going to introduce 20 new product in 2005. Just wondering if you can give us an idea as to when they will be introduced and then maybe break out product line extensions versus new product lines. Thanks.

Gerry is going to give you a little tour de force of our product development activity.

We've started putting together a -- a pipeline plan so we could plan out when the products will be introduced through the year and we don't have all products coming out at the same time. They will actually be spread out over the course of the year. And the primary targets for the product introductions are for Neurosurgery are going to be the AANS meeting in April and the CNS meeting in October, November time frame. For the Orthopedic products or the products that we introduced to our Reconstructive Sales Organization the target introduction dates, the (inaudible) the AAOS meeting, where we had several introductions. We have also a summer meeting, which is the foot -- Orthopedic Foot and Ankle Society Meeting in July then the Orthopedic Trauma Association Meeting in September, October time frame. And as we look at that time Jarit, or I'll say the Surgical Instruments and other products areas our targets are focused more around ARN and the the ACS Meeting which is in the fall. So we've sort of managed our product portfolio to introduce product at those key meetings through the year. That we -- that will allow us to be able to get a constant flow of products in the hands of the sales force, build some momentum in terms of allowing them to have something new to talk about at each meeting.

We do look at -- when we look at products in terms of product line extensions versus what would you call a completely new product, I tell you, most of our products that we have planned right now are more evolutionary type products. They're improvements over existing product lines as well as enhancements in products that allow us to get deeper penetration or new indications for use. I say none of our products that we have in the pipeline right now other than the DuraGen Adhesion Barrier Product is really a revolutionary product. So we're making incremental changes in the current product line that will allow us to get better penetration, expanded coverage in the marketplace. And that in combination with the expansion of our sales force allows us to provide a better service and a better product portfolio for the surgeon -- for the surgeons.

Great.

Glen Novarro, Banc of America Securities.

Thanks. Two questions. One, on -- on the Monitoring Business, that business tends to be very lumpy, and you're forecasting a pickup growth in the second half. Stu, I'm wondering if you can elaborate a little bit more on -- on what gives you confidence there that this business will -- will start picking up. Secondly, DuraGen for the spine, I know you've got that indication outside the US, are you seeing any off-label use in the US right now? Thanks.

Okay. First in terms of the Neurotrauma Business, or the ICU Business, the big second half impact that we're expecting. And you're right, there is lumpiness in the monitor sales, is going to be the launch of the NeuroSensor Product where we believe we've got backlog of monitors waiting for us to actually launch the product. This is one of our later launches in terms of performance relative to expectation. But we're expecting to have that product available at this upcoming April AANS. Which means the bulk of the monitor sales we'll start to see in Q3 and Q 4.

We're also seeing a continued buildup in terms of momentum for Licox. I think we sold something like 14 monitors in the fourth quarter. And the number of hospitals that continue to be interested in evaluating and procuring the Licox goes up. And as I said in my initial presentation, our sales organization can continue to drive the business. But without the adoption of Licox and NeuroSensor it's hard to hit the corporate target of 18 percent. But we've got a good amount of interest in the -- in these products. It's just a question of making it happen.

In terms of DuraGen Spine, DuraGen and DuraGen Plus are on label for use in the spine so you don't need to use them off label to use them in the spine. What then becomes a question is, well, if you don't use them as a dural graft but as an adhesion barrier then it's technically an off-label use. And yes, we are aware of -- I wouldn't call it significant amount of off-label use but we are certainly aware of off-label use because there are doctors who go around and actually make presentations on the product as an adhesion barrier. So it's certainly nothing we're promoting and we certainly are trying to build awareness in Europe of the Adhesion Barrier Matrix and there's definitely interest there and studies going on there as well. But I think the bulk of the growth in Spine and the Spine growth is significant -- it actually in excess of the cranial growth is uses -- use of the product in routine spine procedures as a dural graft.

Can you just -- I don't know if it's possible, can you quantify what -- what adhesion would be -- what the Adhesion Barrier sales are contributing to the whole DuraGen franchise right now?

I can't, but I can tell you it would not be significant. It would be -- in fact, I'll use the word trivial.

Thanks, Stu.

Chad Suggs CIBC.

Hi, Chad.

Good morning, guys. A lot of my questions have been answered. But a couple of modeling questions for the first quarter. Just want to get a feel for what you guys were looking at for gross margin, and then are you assuming tax rate in the 30 percent -- 36 percent for first quarter or a little higher than that?

Well, first of all, we gave you the annual rate of 64 percent. So you should just assume it's going to grow throughout the year to get to about an average of 64 percent and we finished Q4 at 62.4 percent, right, Dave?

No, 68. [67.8] percent for the full year.

Then in terms of the tax rate, we expect a 36 percent tax rate.

Okay. What do you guys ex -- what kind of growth assumption are you guys using for Newdeal in '06 versus '05?

Repeat the question again. We couldn't hear you.

Just wanted to get what your assumptions were for Newdeal as far as growth, growth rate in '06 over '05.

I don't think we've broken out the growth rate but given that the business has historically been growing at about 20 percent we'd certainly continue to expect 20 percent and that's really OUS. I don't have a number to give you in terms of how much US share we will capture. Obviously if we capture a significant amount of what was kno -- previously Wright Medical's Business, then the growth re -- growth rate numbers will be a lot more than that. But assuming it just continues with historical growth rates, then it's a 20 percent grower. And again we finished, just to clarify, we finished the fourth quarter with the 62.5 percent gross margin. We add particularly high tax rate for the year that had to do mostly with the tax restructuring or the tax reorganization that we did. The net impact of the tax reorganization we did should be a 36 percent tax rate for the year 2005.

Okay. And then lastly, how do you look at, with artificial disc technology coming out and, there will be doctors trialing that technology over the next year or two. How do you look at, the Collagen Sponge? As far as any impact there and, can you just speak to that, what you guys might expect in that area?

Well, I guess I'd say first of all, the more instrumentation, the more activity going on in the spine better for our DuraGen -- Dural Grafting Business. That's the most important aspect, actually, is, utilizing that device in the US as a dural graft in the spine and outside the US as adhesion barrier all of the activity in Spine that's going on is good for that. In terms of the ACS, I'm really in no position to give you a perspective on how Medtronic Sofamor Danek will do. I guess I would say discs are important. They raise people's awareness of the opportunity for spine procedures. On the other hand, Sofamor Danek is a pretty -- pretty good selling organization, and I certainly expect them to continue to grow the business. I don't really have any unique insight because we have no influence over their sales and marking activity.

Robert Goldman, Buckingham.

Okay. I've got a few financial questions. First, a lot of difficulties at least for me to analyze the -- the quarter is that the fourth quarter of '03 included that $12 million of other revenue which we know you've spent against. Can you give us some sense of, apples to apples what the operating profit growth rate was in the quarter if you exclude that $12 million bolus and whatever you had incrementally spent against it?

I don't really have in front of me, Bob, numbers that back that out. I can certainly, point you to the public information to help you back it out. Everything in the fourth quarter of last year in terms of the other revenue was, pretty well disclosed. In terms of the other spending I don't really have, except what we might have put in our press releases, then in terms of commentary, what we spent in -- in a aggressive way against the other revenue that we achieved. I do know in the fourth quarter of last year, because we had such a big bolus of revenue coming from Johnson & Johnson, we did turn on a lot of spending to, in particular, transition the sales and marketing activity of Skin from them to us. But I don't have numbers, I'm afraid, I apologize, in front of me to give that you comparison.

Two other things then too, the impact on the interest income as a result of this accounting change on EITF 04-08 which you mentioned after tax is 600,000. If we choose to put those into our models going forward, which -- which I will be doing, should that be in the other income expense or somewhere within the operating line?

Well, it really depends on what you want to do. Unfortunately if you want to keep your model according to GAAP you have to show the interest expense on our convert as simply a non net income statement. So what people often do is just put the words "Add-back" between net income and EPS. But, I mean under GAAP that number doesn't show -- when you get our 10-K in a few days you won't see that number either because what it is is first you solve for net income under GAAP, and that number is in the -- you subtract that number when you get to net income under GAAP. Then you do an alternative calculation which includes the earnings -- sorry, includes the additional shares outstanding and backs out that one and change of interest expense and you solve for EPS. So there's no right answer to your question other than perhaps to have a line under your net income and then say add back after-tax effect of interest expense on convertible bond and then, come up with an adjusted net income or something for modeling purposes and then divide by fully diluted number of shares. But because we are required and choose to only discuss GAAP, all we can do is give you the -- the road map for what the other expense number is so you can get to our GAAP numbers.

Okay. Three other quickies. You mentioned organic growth in the first half would be less than the second half. Is that because of the trialing going on on the competitors to DuraGen?

Well, it's several things. First of all, let me be clear what we said there. We gave you revenue guidance for Q1. So we told what you we think the range is for Q1 and you can compare that to Q1 of 2004, and that's below 18 percent. So all we did was try, in the spirit of full disclosure, to just underscore the fact that the first half of the year is going to be less than 18 and the second half is going to be more than 18 and we have a [expletive] of a lot of confidence in both set of numbers.

Then in terms of what the major impacts are, actually while it is to some extent the impact of DuraGen. Actually if you do the math, you will find a big chunk of is it the Private Label which goes down hard. And one of the other analysts asked that earlier, which goes down hard from Q4 into Q1 and again you've got to do a little bit of modeling to get to that. But if we -- we gave you $22 million number for the year and said that these numbers tend to be back end loaded so actually the Q1 number comes down pretty hard. So that is certainly an aspect of -- of that -- of that guidance.

Of the other two things that we mentioned in our script, which I will just quickly repeat for you, is first the Monitoring, again, tends to be back end loaded so we've said this year the Monitoring was doing about nine or ten percent. You can see in the first half of the year if you plug roughly that kind of a range in it's going to be mean the back end is going to have to be back end loaded to again capture the 18 percent. And we talked about the OEM and then we also talked a little bit about DuraGen. And again, I'm not so sure, it is certainly some aspect of the competitive. But it's also that by the back half of the next year we just expect to see significant increases and we talked about the subsiding of the competitive product impact, the use of DuraGen in lieu of Autograft, and the additional spinal applications. Plus it generally takes us longer to launch products OUS and get substantial traction and so I think we expect some DuraGen Adhesion Barrier Matrix sales to build up over the year and then be big enough to impact the overall growth rate in the back-end of the year.

The other thing I mentioned again, the other big number, again in Private Label is this year, 2004, in Q1 and Q2 we had $750,000 of OEM to Medtronic on our -- our Cranial Plate and Screw System, that's zero in Q1 and Q2.

Just two other real quick ones. One on the balance sheet. It looks like when you look at '03 to '04, days receivable went up and inventory turns went down. Could you give us some rationale for that?

Yes. As we mentioned, this is David, as we mentioned in the script, part of the reason you see the increase in the AR and the inventory at year end was related to our conversion in our Business Enterprise Systems. We had a number -- we built inventory ahead of the transfer to make sure that we minimized the effect to customers and we also had lower collection calls in the fourth quarter as we continue to transition to the system. So --.

So you're going to see some chance for working capital improvements in '05?

Certainly, yes, we would expect to see working capital improvements in '05.

We expect our AR to come down hard by the end of the second quarter, the truth is all the focus was in to trying to make sure we serve customers and the collections just were not a big focus for probably two or three weeks.

Okay. Then finally, and I know this is a repeat from the script, the SG&A to sales number for '05, your guidance again is what?

Well, we gave a range of 32 to 34 percent as our target, and that's really just a going forward target of what we're trying to achieve. And generally it should be on the low end of that, but often when we do acquisitions or have one-time transitions like we did in the fourth quarter we end up getting hit with, significant G&A from the -- the -- the severance expenses and the like.

Okay. Thanks, Stuart.

Yes.

Boris [Muschec], Pennant Capital Management.

All my questions have been asked. Thank you.

David Zimbalist, Natexis Bleichroeder.

Three quickies. First, can you tell us is there are any sales to Wright Medical post your acquisition of Newdeal?

We -- are we allowed to disclose it?

Yes.

They're small, but, yes. There's a period of time between when we closed the deal and when we took over responsibility for sales and marketing which is mid-February that we continued to supply them with product, so yes.

Is it fair to say that was on pattern with sort of the general purchase rates that they had, or was it at a reduced level?

It was on pattern. They've been reducing their -- their purchasing for several quarters before the close -- before we took over responsibility.

Okay. What is the tax rate on your convertible interest? If you -- in that you have to presume.

Well, we use the tax rate that is our corporate tax rate for the purpose of that add-back. Is that what you're referring to?

Yes.

Actually, a little higher because we use our U.S. rate so it's a little bit higher than the overall corporate rate, but -- but you're pretty close with the 38 in the quarter.

Can you talk about the steps you have to go before your tendon repair product is sort of ready to be positioned for market? Then also if you have a pre (inaudible) AANS you can give us.

On the Tendon Repair Product we're currently working through the development process right now. We have the ner -- NeuraWrap product, which is a similar product that's being used in tendon repair but it's a smaller diameter. As you get into the larger tissue structures of tendon you need a product that can manage to wrap around those larger structures. We have a couple of products that we currently manufacture for other applications that we're evaluating right now in tendon repair application, then we're also in the process of developing a product with a target of having a product available later in this year.

Okay. And ANS?

I would say you've heard essentially the product that we intend to launch at AANS and I don't think there's anything new we want to report on this call. We generally have a trick or two up our sleeves but we try to keep competitors from knowing about them in advance.

Thanks.

There appear to be no further questions at this time.

Okay. Well, thank you all very much, and we look forward to seeing you on our next quarterly conference call.

Thank you for your participation. This does conclude today's teleconference. You may disconnect your lines at this time and have a wonderful day.