Integra Lifesciences Holdings Corp (IART) 2011 Q1 法說會逐字稿

Good day, everyone, welcome to today's Integra LifeSciences first quarter 2011 conference call. As a reminder, today's conference is being recorded. At this time, we would like to turn the call over to Ms. Angela Steinway,Head of Investor Relations. Go ahead, ma'am.

Good morning, and thank you for joining us for the Integra LifeSciences first quarter 2011 earnings release conference call. Joining me today are Stuart Essig, Chief Executive Officer, Jack Henneman, Chief Financial Officer, and Pete Arduini, Chief Operating Officer. Earlier this morning we issued a press release announcing our first quarter financial results. This release is available on our website in our press release section under Investor Relations.

During this call, we will review these financial results and update our forward looking guidance for 2011. At the conclusion of our prepared remarks, we will take questions from the telephone audience. Though we will try to keep the call to one hour, we would like to continue our tradition of answering all of your questions. As a courtesy to all, so we may accommodate a large number of requests, please limit yourself to one question and one follow up during the Q&A period. If you have additional questions, please rejoin the queue.

This presentation is open to the general public and can be heard through telephone access or through our live webcast. A replay of this conference call will be accessible starting about one hour after the conclusion of the live event. Access to the telephonic replay is available through May 12th 2011 by dialing 719-457-0820, access code 8305582. Additionally, a webcast replay will be archived on the Investor Relations page of our website.

Today's call is proprietary presentation of Integra LifeSciences Holdings Corporation, and is being recorded by Integra. No recording, reproduction, transcripts, transmissions 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, April 28th, 2011.

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 Management's expectation of future financial results, new product launches, regulatory approval 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. These forward-looking statements are made only of the date hereof, and the Company undertakes no obligation to update or revise the forward-looking statements, whether as a result of future events, new information or otherwise. For a discussion of such risks and uncertainties, please refer to the risk factors included in Item 1-A of Integra's annual report on Form 10-K for the year ended December 31st, 2010, and for information contained in our subsequent filings with the Securities and Exchange Commission.

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 the press release we issued this morning. Additionally, in the press release and in the current report on Form 8-K that we filed this morning, we provide explanation for why Management believes that presentation of these non-GAAP financial measures provides useful information to investors regarding Integra's information and results of operations and the reason for which Integra's management uses the non-GAAP financial measures.

I will now turn the call over to Stuart.

Thank you, Angela.

We performed well in the first quarter. Total revenue for the first quarter of 2011 increased to $181 million, up 5% as reported and 4.4% on a constant currency basis. Other results reflect the consistent contribution of internal to our financial performance. This quarter also spoke to the diversification of our product categories. Like many other medical device companies, our orthopedics revenue was weaker than expected, but was more than made up for by the strong performance in our instrument and neuroproducts during the first quarter. We expect that our growth driving investments, particularly in extremity reconstruction in developing markets, will propel faster top line growth in the second half of the year.

Orthopedics can includes products sold to foot, hand, spine, and orthopedic surgeons represented approximately 40% of Integra's overall revenue during the first quarter and increased 3% to $72 million over the prior year period. Extremity reconstruction, which is the largest component of our orthopedics category, grew in the high single digits. Relative strength is the US, Latin America, and Asia-Pacific was tempered by modest growth in Europe. Growth in upper extremity, mid-foot, and hind foot products drove the increase.

Spine and orthobiologic sales declined slightly in the quarter. Weakness in spine hardware in European sales more than offset the strong performance by our US orthobiologic product line. Private label revenue increased modestly over the prior year period.

Neurosurgery revenues grew 6% to $68 million, representing approximately 38% of Integra's overall revenue. Neurocritical care, neuroplasty, and ultrasonic products drove the growth in this category. European neurosales held up better than we expected a couple months ago, helped along by currency.

Instruments accounted for 22% of our overall revenue in our first quarter. Instrument revenue of $40 million represented an increase of 7% over last year. In the acute care setting, increased purchases of our surgical headlights and retractor systems contributed to a strong performance. Demand for instruments is also steadily improving the office-based sales channel.

Consolidated international sales accounted for 26% of revenue in the first quarter. International revenue increased 10% as reported, and 8% on a constant currency basis. Sales in Europe performed better than expected, though the environment there remains challenging. Our other international markets delivered another strong performance, outpacing revenue growth in both the US and in Europe.

Integra had a good first quarter. Fast growth in developing markets and the diversity of our revenue base led to the solid performance. We expect these strengths, coupled with the investments that we are making in the business, to sustain our ability to achieve our goals for 2011 and beyond. Now, I will turn the call over to Pete to discuss some operational highlights.

Thank you, Stuart.

Extremity reconstruction grew high single digits in the first quarter. Several factors drove sales. Our regenerative products, including our NeuraGen peripheral nerve guide, performed well. Also the introduction of Trel express demineralized bone matrix product family has been extremely well received by our customers. Our sales representatives are increasingly able to use relationships, established through internal fixation products, to expand their osteobiologic sales. As a result, our extremity osteobiologic sales have nearly doubled year-over-year.

Additionally, new sales representatives are increasing their productivity and contributing to the growth of this platform. We expect to add about 20 new reps this year support our growth, reaching a field force of over 150 in our US extremities franchise by the end of 2011.

As Stuart said earlier, spine and orthobiologic sales declined slightly this quarter. The market remains challenging due to slower overall market growth, including ongoing pricing pressure. Hardware pricing remained down in the mid single digits versus the prior year, while orthobiologic's pricing was stable. However, we remain cautiously optimistic, and we see opportunities to improve our performance during 2011.

Spine is continuing to add new distributors and is raising expectations for existing distributors. We are also doing more to be a better partner for our distributors. As an example, we have launched online training programs and hired a full time training manager. We also added several new products to our spine portfolio. We successfully introduced one of our most promising new products, Vu aPOD Prime, in a controlled market release. Vu aPOD Prime functions as a standalone device, meaning it requires no additional supplemental fixation. The streamline is a technique which in turn may reduce the OR time and the number of implants required to perform this procedure.

We also received 510-K approval for our steerable keyless interbody fusion device, which allowed surgeons to place the peek implant into the intervertebral body space and steer the device up to 55 degrees, precisely into position. This system is in controlled market release and expected to be in full commercialization later in 2011. And finally the CE approval of a Integra Mosaic in our planned launch outside of the US later this year should contribute of our global orthobiologics franchise. All of these new product launches deliver upon our brand promises to limit uncertainty for surgeons and patients.

Last week we held the grand opening of our spine facility in Medina, Ohio, which consolidates our previous four locations and significantly expands our operations to allow for future growth. As a result of this consolidation, we recorded $900,000 in special charges this quarter. For spine and orthobiologics together, we expect these initiatives and new products to stimulate growth in this category, and anticipate low single digit growth for full year 2011.

Moving on to neurosurgery, we had another good quarter led by sales of neurocritical care products, implants and ultrasonic tissue ablation. The recent American Academy of Neurological Surgeons meeting in Denver earlier this month underscores our leadership in this market. At the AANS, we launched our spine table adapter which allowed our Mayfield cranial stabilization system to attach to more types of operating room tables. The meeting highlighted the breadth and depth of our product portfolio, including a range of accessories for our Cusa tissue ablation system, our comprehensive monitoring solutions for neurocritical, hydroencephaly solutions and neurorepair offerings, and a host of capital and disposal instruments.

Sales of surgical instruments were strong in this quarter, helped along by increases in capital budget spending among our hospital customers and steadily improving demand from our office-based customers. Our surgical headlight and table-mounted retractor product lines performed particularly well. We are the most diverse and multifaceted instrument company reaching both acute care and alternate site markets. These product lines are strong contributors to both operating profit and cash flow, and enable us to deliver on brand promises to our customers such as service excellence.

We continue to make progress in expanding our regenerative medicine manufacturing capacity here in New Jersey,which we expect to be operational in 2012. We are also adding 70,000 square feet to our Puerto Rico facilities. That facility will allow for the consolidation of more of our products in a low cost yet state of the art facilities. Overall we will have greater more efficient capacity for our regenerative medicine products.

We completed the consolidation of our facility in West Boylston, Massachusetts, which resulted in approximately $700,000 recorded in special charges and costs during Q1.

As a leadership team, we have established key initiatives to drive our growth and profitability, and simplify how we operate and run the company. This focus, we believe, will allow us to differentiate ourselves in the eyes of our customers through our brand promises.

From a growth perspective, we have initiatives targeted on channel optimization and expansion, business development and licensing, and a specific focus on international growth. International expansion remains a significant opportunity and you will hear more about our efforts over the next year. Operational excellence is a key focus area as well. Systematically assessing and improving many business processes is at the core of this effort. Whether it's ERP integration and implementation, inventory management, brand management, R&D effectiveness, or our global procurement processes, these initiatives will drive our profitability and enable a business platform to support future growth and better gross margins.

In each of these areas of focus, we have dedicated teams and mechanisms to move these programs forward. We are off to a good start with these initiatives and we will keep you posted as we progress in these areas.

Now I'll turn the call over to Jack for a review of our financial results.

Thank you, Pete.

On top of the solid revenue performance, we were pleased with the profitable of the company in the first quarter. In addition to walking through the elements of our P&L, I will update our guidance on the line items. Stuart will then discuss our overall outlook for revenue and earnings.

We reported GAAP net income of approximately $11.5 million, or $0.38 per diluted share. for the first quarter. When adjusted for acquisition related expenses, other special charges, and intangible asset amortization, net income is $20 million or $0.66 per diluted share. In this quarter foreign exchange had a favorable impact on revenues of $800,000 versus the same quarter in 2010.

Gross margin on total revenue in the first quarter was 64%, up from the prior year period and versus the fourth quarter of 2010, fewer manufacturing variances hit the quarter. We expect our GAAP gross margin to remain around 64% for the rest of 2011. We expect a majority of this improvement to result from more efficient manufacturing operations and the balance of the improvement from product and better inventory management. Longer term, we still anticipate improvement in our corporate gross margin of 75 basis points a year, primarily because of our expectations of revenue growth, sales mix and more efficiency.

Research and development expenses in the first quarter increased from the prior year to $12 million or 7% of sales. This increase included a $300,000 expanse relating to our product development agreement with Stout Medical. We are targeting spending at 6.5%, to 7% of total revenue research and development in 2011.

Selling, general, and administrative expenses in the first quarter increased from the prior year to $80 million or 44% of revenue. The $2.7 million special charge related to our ERP system implementation, that was recorded in SG&A, comprised majority of the increase in spending. We expect to incur approximately $13 million for special charges from our global ERP project during 2011. Beyond 2011, much of the global ERP spending will be characterized as capital expenditures and will have a lower impact on SG&A. Increased head count comprised the remainder of the increase in spending. Including all special charges, we target future selling, general, and administrative expenses at between 40% and 42% of revenue.

In the first quarter we earned $37 million in adjusted EBITDA and $41 million in adjusted EBITDA excluding stock based compensation. We reported a $900,000 increase in net interest expense, to $5.5 million for the first quarter, resulting primarily from the higher interest rate on our credit facility. We expect to record a little over $5 million of total interest expense per quarter during 2011. The company reported $600,000 of other expense during the quarter. We recommending modeling this at zero through the remainder of 2011.

Our income tax expense of $3.3 million reflected an effective tax rate of 22.6% for the quarter. The implied tax rate on our adjusted net income during the quarter was 25.25%. For the full year 2011, we expect our tax rates will be about 18% on a reported basis, and 25.25% on an adjusted basis. Reported tax rate estimate is down slightly from our initial 2011 tax rate guidance.

We expect weighted average share count for 2011 to be approximately 30 million shares.

During the quarter we recorded depreciation of $5.5 million, amortization for tangible assets at $4 million, including $1.5 million in cost of product revenue. For the full year of 2011, we expect depreciation of approximately $22 million, and amortization of approximately $17 million. Approximately $6 million for the amortization will be included in cost of product revenue for the year.

We expect the quarterly impact of share-based compensation expense in 2011 to be approximately $4 million, or $0.78 per diluted share.

In the first quarter we generated $21 million of cash flow from operations and about $6 million on capital expenditures. For the full year of 2011, we expect to spend approximately $40 million to $45 million on capital expenditures. We repaid $40 million on our revolving credit facility. At the end of the quarter we had $104 million in cash, outstanding borrowings of $146 million under our term loans,$60 million under our revolving credit facility, and $165 million of convertible notes outstanding.

Cash receivable days were 53 days, relatively flat versus the prior year and prior quarter, inventory days were 209 days up from both prior year and prior quarter.

Now I will hand the call over to Stuart.

Thank you, Jack.

For 2011, we are providing annual revenue and GAAP and adjusted EPS guidance.

We expect to recognize between $765 million and $780 million in revenue in the full year of 2011. This guidance assumes the stronger dollar that prevailed when we provided our guidance in February. Since then, the basket of currencies that we used in our modeling our revenues has appreciated approximately 5% versus. the dollar. Given the volatility in the foreign exchange markets, we are maintaining our forecasts as the rates used to provide our initial guidance. However, if exchange rates stay where they have been recently, the impact of currency on revenues in the second quarter could add 2% to our year-over-year growth. Similarly, at current rates the impact of currency on revenues for the full year could add more than 1% to our full year revenue growth.

Within this guidance range of $765 million to $780 million, we are anticipating orthopedics to grow approximately 5% to 7%, neurosurgery 4% to 6%, and instruments 3% to 4% on a reported basis. The company expects GAAP earnings per diluted shares between $1.97 and $2.12, and adjusted earnings per diluted share between $2.87and $3.02. In the absence of any future acquisitions, we anticipate a quarterly progression in our revenues and earnings throughout the year that accelerate slightly. We anticipate second quarter 2011 revenue to be sequentially higher than Q1, by about 3%, or roughly 4% to 5% above the level we reported in Q2 of last year. Further, we expect our adjusted earnings per share in the second quarter of 2011 to be roughly $0.02 to $0.03 higher than Q1. We expect both earnings growth and revenue growth to be greater in the second half of the year.

Beyond 2011, and for modeling purposes we would suggest 6% to 8% constant currency revenue growth, and adjusted earnings per share growth of 9% to 12%. Further, the investments we plan to make give us confidence in our ability to accelerate our growth profile in 2012 and beyond.

In summary, we are confident in the strength and diversity of our business, and are pleased with the solid start to 2011. Longer term we believe that we have the potential to grow faster, both on the top and bottom lines. We expect our near term investments to help realize that growth potential. With our strong cash flow, we hope to add to our internal growth through acquisitions and strategic alliances. We look forward to meeting with investors in the coming weeks. In May, we will be presenting at several investment conferences, including the Deutsche Bank Healthcare Conference, and the Bank of America Merrill Lynch Healthcare Conference.

Now, we will be happy to answer your questions. As a reminder, in an effort to keep this call to an hour, please do limit yourself to one question and one follow up. Rejoin the queue if you have more questions. Operator, you may turn the call over to our participants.

Thank you. (Operator Instructions). We'll go to Matt Miksic with Piper Jaffray.

Hi, Matt.

Sir, you may be on mute? Mr. Miksicare you there?

Sorry, I was just on mute. So thanks for taking our question. I just wanted to follow up on the orthobiologic segment of the market, and if you can -- I know you aren't breaking out spine and orthobiologic separately, if you can give us some sense as to qualitatively which side of that business is performing sort of a driving the bulk of ortho -- I'm sorry, spine and orthobiologics.

Hey, Matt, it's Pete Arduini.

It was just you commented on -- we typically don't break out the overall components, but just to kind of frame up the broader piece again. So for the first quarter we talked a little bit about extremities reconstruction being up in high single digits and growing faster in US than in Europe, and spine and orthobiologics was down slightly versus last year.

From a standpoint of the Q1, we modified our expectations in orthopedics and we expect spine to grow in the low single digits. And we expect the extremities reconstruction to grow in low double digits throughout the rest of the year.

Our expectations for the year have mostly been impacted by the spine business, primarily on the hardware side. And as we mentioned that our orthobiologics products continue to do reasonably well. The launch that I mentioned for Mosaic in Europe gives us some promise for the second half of the year of continues growth in Europe. If you remember as per the previous discussions, with our demineralized bone product, we had some challenges with registration. Now the product, which is a synthetic product and not a human derived, with a CE mark on it, we believe will provide growth in Europe.

I will also mention our EVO-3 product, which is a third generation product is doing extremely well, and we see that continuing to accelerate here in the US in the second half of the year.

Thank you, and then one follow up on the extremities business.

It's something that we have been looking at quarter to quarter for some time, and virtually every player with extremities exposure is putting up healthy numbers this quarter. Maybe as a function of what's happening with J&J or maybe it is a function just what is happening with this sort of smaller specialty players and extremities getting larger and larger. You know, how sustainable is that growth, do you think? How penetrated is that market and at what point does this start to become a zero sum game?

I think it's a ways off before it's a zero sum game. I think the diversity of the product offerings that people at the different companies are talking about makes this a particularly big segment. Remember, we include in extremities hand and foot and ankle. Some of the larger companies include shoulder and elbow. When you add all of these up, many of us are growing in high single digits and often in mid to high mid double digits. And we are introducing now products that differentiate the particular surgeries from traditional trauma plates and screws. And so it's not a question of market share, as it is still in that early phase of innovation and new product launch.

So I think this is going to continue for quite a while. I'd also add in our case when we put up our extremities numbers, often we aren't even competing against some of the larger orthopedic players -- examples being our nerve repair products and our surgical skin products, which, frankly, none of those companies have. So we have a very broad product line and it covers a very significant number of different surgical specialties.

Thanks, that's helpful.

Next we will go to Amit Bhalla with Citi.

Hi. Good morning.

Good morning.

I wanted to talk just a little bit about the European neuro business. Looked like it did bounce back like you mentioned, last quarter was actually pretty weak. Can you talk more about is that and also about how much FX actually contributed to that growth?

Amit, it's Pete Arduini. I will comment a little bit on Europe, and maybe Jack if you want to comment on the FX performance.

Our European sales were better than we expected. And while there was nothing overall inspirational about the performance, it was better than we expected. While we continue here, our European colleagues talk about the tough environment, and we see it in different tenders and a lot of the austerity measures that are going on, we remain cautiously optimistic. And we think we can temper our outlook based on that for the year.

Relative to -- as far as the foreign currency goes we only reported a consolidated impact, which we said was about $800,000 on currency, but I'll give you a little math. About two-thirds of our foreign currency denominated sales are euros, and of those the majority are European sales. And then of those a majority are neuro. So if you break it all down, and had to come up with an estimate and say that the impact of foreign currency on neuro European sales was probably $300,000, maybe a little more.

Okay. That's helpful. And I just -- I guess a question in terms of long term ortho outlook, about 10% to 12%. Are you still comfortable with that longer term outlook?

I think the answer is yes. We thought long and hard about that question as we prepared for this call. And, obviously, the first quarter has been a very challenging quarter for all of the ortho companies, including ourselves. That being said, I don't think one should judge the entire performance of the market based on one quarter. And so I remain quite optimistic that as we continue to grow our extremity business and optimistically able to grow that in the low double digits to mid double digits,and we get some turn around in our spine business and begin growing that in the mid to high single digits, and then we assume our private label ortho grows along with the rest of the ortho, we think it still remains wise to leave the orthopedic long term growth rate in that 10% to 12%. Keep in mind, last year we put those numbers up, so it doesn't seem like we should change that outlook based on one quarter.

Okay, thank you.

Next we will go to David Lewis with Morgan Stanley.

Good morning.

Hi, David.

Just a quick question on gross margins. Obviously a bit stronger this year, there were some one time items there, as you think about the balance of the year, is it possible we see a stronger GM year than we had initially expected? And I wonder are you still anticipating to reinvest most of the GM upside this year into SG&A?

I would say our gross margin guidance is our gross margin guidance. It did well in the first quarter. Most of this is the result of sort of normal small dollar ups and downs and in this case, we had fewer manufacturing variances hit the quarter than we had in prior quarters. I think if you go back and look at our gross margin historically, it moved up and down by 50 basis points, pretty routinely. So we are pretty confident in the number we gave, but right now we aren't calling for any upside.

I would further remind you that we have a -- we procure a firmout of our products or manufacture them in Europe, so if the euro stays at high as it has been, that will probably result in some headwind on gross margin in the back half of the year. But all of that said, as the gross margin improves, we expect to ultimately drop that to the bottom line. In the near term, we are making a bunch of investments in the middle of the P&L which we are calling out in some detail, much of which we will characterize as special charges and extract from adjusted EPS.

You know, I think we've been trying to get across the message that we can grow gross margin this year by 50 basis points and deliver 64% gross margin on a GAAP basis, and Q1 is nice leading indicator of that. Longer term, we expect to grow them 75 basis points a year, and I think in terms of modeling we try to suggest that we will keep the R&D at 6.5%, to 7%. We will keep the adjusted SG&A in the 40% to 42%, keep in mind we are now having some significant charges that we adjust out for the ERP project. By the end of the year, those will probably stop affecting our GAAP number because they will turn into capex in 2012. By the end of the year, I mean it will start morphing into capex starting first quarter of 2012. So our objective is to maintain those metrics which means delivering this year 50 basis points on the bottom line on adjusted and in the future year 75 basis points, dropping down to the adjusted operating. As the company gets bigger, we should have a little bit of room in the SG&A and allow ourselves to be at the lower end of that adjusted number the 40%, rather than the 42%, but that's not a 2011 phenomenon.

Thank you, Stu, very clear.

The second follow up I had is just thinking about capital expenditure in the quarter, certainly your instrument business was very strong, or certainly solid. One thing we have seen across earnings is most companies are putting up much better capital equipment numbers than we would have expected -- both US and internationally. Maybe talk about what you are seeing in your businesses and what you think the outlook for your business cans be throughout the year?

Okay, sure. I'll take a first swing at it and then maybe Jack or Pete will add some more color.

When we think about the instrument business, it's not all capital but it's certainly proved to be economically sensitive when the economy tanked. And if you recall that business got hurt as much as or more than our capital business in the early part of the recession. And what we saw last year was a stabilization, and I would say the good news is this year we are seeing some acceleration. It's also true that the capital components of the instrument business were indeed particularly strong this quarter. And so I think we are like those other companies in that we are getting some resurgence in the first half of the year from the capital. And I think we will probably see that again in our instrument business in the second quarter.

Interestingly, in neuro it wasn't really driven by capital. And the capital did fine, but it was actually disposables and implants as well. So in the neuro business, it was I think just a solid performance right in the middle of our guidance, or at the high end of our guidance, but based on it being pretty strong across the board, I would say the surprise to us was Europe,where we really had anticipated Europe to be performing not as well as it did, and we thought capital would be hurt the most. But Europe put up a solid performance.

So I think our results are pretty consistent with the other companies that saw some capital resurgence in the quarter, and pretty consistent with some of the other companies that saw soft orthopedics. My guess is that continues into Q2 and then in Q3 starts to reverse. Because I think the instruments -- we aren't calling for 7% growth through the year, and we are certainly not calling for 3% growth for orthopedics throughout the year. So I think as you start to get to the back half of the year, I think things will start to normalize.

Great, thank you very much.

We'll go next to Jefferies' Raj Denhoy.

Hi. Good morning, guys.

Hi, Raj.

I wonder if we can ask about the acquisition front, obviously it's something that we can't focus on. I haven't seen a deal from you guys in some time. Maybe if you can just describe what the market is like out there now for acquisitions and when we can perhaps expect some from you guys?

Sure. This is Jack. On the one hand it is a target rich environment and we are well financed and everybody is working hard all over the industry, I think, looking at opportunities and we are no different. That's on the one hand.

On the other hand, I would say we are maintaining our discipline on price, maintaining our care on due diligence. So I think that as we said a year ago, I would expect to get a transaction done this year, maybe a couple. On the other hand we said that a year ago it and turned out not to be a true. So from our standpoint, I think that the environment is an attractive one, but whether it -- there's an attractive transaction is in the particulars is a somewhat different question.

Is it a case that you are sort of shopping now in perhaps more crowded areas? Spine extremities are kind of hot spaces it seems for acquisitions where previously you did things more in instruments, and perhaps some less focused-on areas?Is it just a more competitive environment for the deals you are looking at?

I would say this, if you think about our deals over the last four or five years, they haven't been predominately instruments. If anything they have been orthopedics and spine. Instrument deals in a way are easier for us because the multiples and valuations tend to be more conservative, and given our relatively conservative approach to what we are willing to pay, we tend to do better in that area. And I think we are trying to maintain our discipline in orthopedics. With the valuations as high as they are in extremities, it is to some extent tougher for us to compete particularly for larger properties.

That being said, in the smaller family companies, or venture companies, I think we can achieve reasonable valuations. Actually, spine is a good place for us to look now. A lot of the spine companies are running out of money. A lot of the spine companies are under pressure on price. And so there may be some nice opportunities to find attractive spine companies at reasonable valuations.

Okay, and just one broader question. Your growth in the quarter organically, 4.4%, and your guidance for the year, 5% to 7%, and then long term 6% to 8%. Broadly speaking, that requires an acceleration, clearly, when you look at what gets you to those numbers is it new products? Is it sales force additions? Maybe you can talk a bit about how you think about that acceleration taking place?

So Raj, it is Peter Arduini. You know, I think it is a fair question.

We talked a little bit about the slowness currently in orthopedics and in our view that in the second half that we will see some uptick. I mean, some of the comments I made specifically around extremities, that we are expecting low double digits growth for the rest of the year, and accelerations kind of due to what I had mentioned around the sales reps becoming productive throughout the year, the 20 that we are adding, and that we have good visibility as well in our private label business, and we see that flat to slightly up. It is really on spine and orthobiologics, as we commented. We are saying that that is low single digits but we have a lot of good things coming in place, relative to the new management team. Products that we have coming out -- and I think traction really with our distributor models, as we have had some volatility there,where we have had some involuntary and voluntary change. Many of our new distributors we're bringing on, we are feeling comfortable that we are getting traction to be able to grow.

I think in terms of the longer term growth target, the number that we gave I believe back in November at the analyst meeting we just talked about was 10% to 12%? And you know we will be revisiting later on and taking a look at the margins in the fall, or the numbers in the fall and see how things are tied to the economy. But we still remain I think optimistic that our long term growth trajectories are there. A lot of the things that have challenged our spine business and our orthobiologic business have been in our control, and we are making a lot of those changes to be able to accelerate here, really starting in the second half of the year.

Yes, I would say in spine, in addition to managing the business more closely, we have a lot of new products. We talked about them at the last congress and we have a fair number of new products coming into Europe that are ready for sale in the US. I would also mention in extremities, we are adding 20 new reps in the new year and that will start the pay -- that's in the US, I mean, and that will start to pay off in the back half of the year.

Great, thank you.

Our next question comes from Chris Pasquale with JPMorgan.

Hi, Chris.

Thanks, hey.

I think we hit on a lot of the key topics, but just a couple of points of clarification. The new tax base guidance looks like it adds $0.03 of full year earnings. But you're keeping your EPS guidance the same. It didn't look like your other guidance ranges for the other metrics had really changed. Can you talk about some of the offsets that keep you from raising the overall outlook?

Well, I think with puts and takes -- some things went up in the model, some things went down in the model. We didn't see a reason to change full year guidance. I would point out that for a few years now, we have not micromanaged the annual guidance on a quarter by quarter basis. So you are right, we started the year with an expectation of 26% tax rate, we have now a 25.25% tax rate. Even though it is a couple of cents, that is really not enough for us to change the whole yearEPS. There's so many other things that will move around and affect whether at the high end or low end of the guidance.

So I don't think you should read into that anything. We tried to give you the most up to date thinking on each of the different P&L items as we get them. But I wouldn't read into the fact that we didn't change annual guidance.

One thing we did try to do is get across that there's a gradual acceleration throughout the year in both revenues and revenue growth, and earnings and earnings growth, and we gave you some reasonably specific guidance on the Q1 to Q2 progression. And the back half of the year is a bit of an acceleration, but I would say very much in line with the original guidance that we provided.

Okay. Fair enough.

And then can you help us frame the opportunities you launched Mosaic OUS, how big a product is that for you?

Well, we don't break out the individual categories within our spine and orthobiologic franchise, so we don't really want to give a Mosaic number. That being said, it is a pretty reasonable franchise for us as a percentage of the orthobiologics franchise, so it could meaningfully impact the growth of our business.

Okay, thanks Stuart.

We'll go next to Spencer Nam with Madison Williams.

Thank you for taking my questions. Hey, good morning, how are you. Thank you for taking my questions.

Just a couple of questions. First of all, a little bit more on the spine, the orthopeedics business, seems like you guys are maintaining your outlook for the year, starting out a little slowly. There are some thoughts on the street that the orthospine issues are more than kind of the seasonal issues or economic issues. It's -- the mentalities are changing, paradigms are shifting towards less spending and more scrutiny in procedures.

I'm curious, how you guys are seeing the -- these changes from your end? And whether adding new product lines, adding reps would make much difference? If so, why -- how do you think that will play out?

Spencer, it's Peter Arduini.

Look, I think there is a lot of dynamics that are going on in the spine marketplace. And as a rather small player coming in -- in many cases, although there's challenges and I mentioned some about our transitions where we are, we see it as a small player coming in whether via acquisition opportunities, or some of the transitional opportunities that are happening around GPOs as an example,as something that plays to our strong points. The pricing pressure has been out there in the marketplace and things, but again, when we take a look at the overall marketplace and the stability that is out there, we think down the road that it's going to be stabilizing. Part of our opportunity is that filling out our product portfolio, and becoming a large enough player to have a much bigger impact within the category, and so we are spending a good chunk of time from a standpoint of a management team as well of building out our capabilities and processes to be able to support a bigger organization in the future, potentially, $150 million to $250 million plus type of a spine business.

It is a time of change, but with that we think there will be opportunities that will come out of it. The demographics in the United States and around the world with aging population and the need for this type of procedures done the right way, done with the right type of cost effective implants we think we can play a major role in.

I would add one thing. We are relatively small player in spine, but because of the strength of Integra and the synergy with the rest of our business, we are going to be one of the winners and one of the survivors. Smaller players that don't have the kind of balance sheet that we have, are not going to be able to sustain the price compression, and they are targets for acquisition. So I think, again, there's a lot of opportunity for Integra to weather the storm in spine, and come out as one of the more significant consolidators.

That's helpful. One quick follow up question.

So you are showing some strength in neuro side now, and I'm curious whether you feel that the tide may have changed a little bit on neuro? That what it's a little early, or are you seeing the weakness that we felt a couple of years ago may have been washed away now that your demand is growing? How do you think the neuro space is playing out here?

I will let Pete answer with more detail, but actually our neuro business has been one of the more consistent performers for Integra in the last four or five quarters. So we are -- we have been putting up numbers in the middle of our range, or at the high end of our range, and we are optimistic we will continue to do that.

So I would say neuro at the moment is the one that least surprised us. The only time neuro really got hurt in the last several years was just after the market crashed and hospitals were just hoarding capital. But other than that, neuro has been a good performer. I'm not looking for it to break out or decelerate.

Spencer, the only thing I would add to it, my comments I made about the AANS meeting, from a capital standpoint, we had a strong year last year, which is our biggest capital component equipment, the aspirator, and we see that coming back to normal rates this year, but that's a good sign as far as consistency and budgets staying on track, let's say. Our instruments business in that area which are much more specialized doing well and continuing to do well there. And with small innovations in evolutions and things such as cranial stabilization, and our osteo tactics, we continue to have a nice diverse basket of growth. And we don't really see a whole lot of changes to that going forward. This is one of the areas where we are bringing on incremental innovation, and being able to capture it. So we feel pretty good what we have got aligned for that growth.

One thing we haven't focused on in the questions yet is the performance in our non-US, non-Europe business. And we started making some significant investments about a year and a half ago in regulatory, and in business development in the developing markets. And that's one of the things that I think has certainly helped us this year, and I think will be a more important factor in the coming three to five years. And we are adding resources there, over the years we have been pretty focused. We've gone and built our US business first, and then our Europe business, and I think now we are big enough and have the breadth to enter markets such as China and, India, and the Middle East and do that both through our expanding our infrastructure as well as potentially down the road through acquisitions and joint ventures and partnerships.

So when you compare our potential growth with some of the larger companies, do keep in mind that we are 26% OUS, versus 50% for many of these larger companies. So we have some nice potential to drive our longer-term growth, just doing things that other people did already.

Thank you, very helpful.

We'll go next to CL King's Robert Goldman.

Hey, Bob.

God morning. Hi, Stuart. I wanted to focus a bit more on the gross margin. I confess I didn't follow all of the guidance. It seemed to be on a GAAP basis. My first question on gross margin, am I correct that the non-GAAP the adjusted gross margin in the first quarter was 65% versus about 63.8%in the prior year?

Yes, this is Jack. You are. We don't -- we don't guide to an adjusted gross margin, per se, but we describe those elements of our special charges that are attributable to COGS and that's how the math works out.

Gross margin did jump up considerably in the first quarter, and that's after dropping considerably year-over-year in the fourth quarter. And I believe, Jack, you attributed it to less the manufacturing variances and I do understand that -- I believe, Peter, had a role in trying to fix some of those manufacturing variance problems in the fourth quarter,which now seem well fixed. So the other question is given that Peter and others have fixed it, why should we not assume similar significant jumps in non-GAAP gross margins as we move on throughout the year, especially since sales growth is going to be accelerating?

Well, far be it for me to in anyway talk down Pete's contributions to our gross margin, which have been legion -- however, I think that in our case we have -- as you know, we have 15 manufacturing plants. We confront a complex supply chain for a company of our size. We regard ourselves as having significant work to do still to get to where we want to be. And that includes not just in the nuts and bolts of the operations in the plants, which are important, but it also includes the effectiveness of our planning function which we continue to work on. You will see that we, for example, put more money into inventory in the last quarter than we had hoped, and so forth.

So we take full credit for the work accomplished to date. But we still think we have more to go, and there are going to be as I said, there are going to be ups and downs in the gross margin, as there always have been, especially as different factors move through it. For example, the higher euro that we have now, if it sustains itself, will be a win at the phase of gross margins in the back half of the year. I don't know, Pete, if you want to elaborate.

I would just comment. Bob, one quarter doesn't make a trend, but the operations team had lower variations and they are very much focused on a broad spectrum of things. I kind of alluded to that some in some of my prepared comments, the focus area we have going on across the country, so it is a journey. And a lot of the things we are talking about, the different businesses about operational effectiveness, how we are taking a look at inventory, our big products and big brands that drive a lot of the cost and a lot of the volume that have direct correlation to our margin contribution. Yes, we have a lot of focus on them, not only on the cost side, but from a growth standpoint.

So that is our goal. But I think it's a little early in the season yet to say that would call it success. It is part of our strategy over our long term goals to be able to grow it, and we are taking the first steps here to make some of those actions so that we can realize what we've already forecasted in our long term plan.

Can I ask one follow up on that? And again, it is on gross margin.

Sure.

You did whatever you did in the first quarter to improve variances, sales growth will be accelerated if the mix is going to be improving working to orthopedics, all that is positive to gross margin. The one offset, Jack mentioned was currency as a headwind in the second half. What other headwinds do you have that without offset all that good stuff that would naturally boost gross margin?

I think, Bob, no specific headwinds beyond what you just summarized. That being said, as we have seen in other years, we're still a small enough company that relatively small things can impact gross margin in a disproportional way. And what we really didn't want anybody to do on this call was change their models for what was a good quarter. But I would like to put a few more quarters up as 64% GAAP before we say okay, we can do anything better than the 50 basis points that we committed to for the year. So I would say in the spirit of neither trying to pat ourselves on the back with something is good or falling on our sword when something is bad for one quarter, I would say this is a positive indication of our ability to maintain the 64% rate for the year.

Okay, thank you.

Our next question comes from Jayson Bedford with Raymond James.

Hey, Jason.

Hey, Stuart, good morning. Thank you for taking the questions. Just a couple quickies here. On the spine distributors I think you mentioned you are asking more the current folks and adding new distributors, can you give us an idea of how many you have, how many you expect to add, and when will it be optimal?

We can talk a little bit about that, but I would not -- we over the years have provided metrics on growth in our direct sales force, for example extremities, as a leading indicator of potential revenues. I would not use that for distributors based on our last several quarters. And what I mean by that is we have been adding to distributors but we have been terminating distributors. And so the net add and the net termination is in some ways just not a very useful number. Now, obviously, number of feet on the street is. And each of the distributors have different numbers of reps.

What I would say is different, and this may help you understand, is the original model that we worked toward in our spine division gave large geographic territories to dealers. So a dealer might have all of Georgia. And what we have been doing in the last 12 months is say well, no, you don't really get all of Georgia, you may get two or three hospitals in Atlanta, where you have a particularly strong coverage and the ability to service those hospitals. And you might imagine that might make some dealers unhappy who view it as upside, if they did really well in Atlanta, they might also get Savannah. And what we have said is we are going to really micromanage them at a higher level, and if they are performing well, of course, they will retain the hospitals or smaller geographic area, but if they aren't really participating in a big geography, then we won't give them a contractual right to that. So that is what has driven the churn that you are hearing about, because people go into things with a certain expectation, and when you change it, it's going to cause you some pain.

Now, the orthobiologics business which was bid under our control for three or four years is a lot more micromanaged that way. And so we have a lot more control over where distributors sell, and where they spend their time. So I think that's a maybe more helpful response than just giving you quantitative answers.

Sure, that's fair. That is helpful. I guess just secondly, sticking with kind of infrastructure here, the extremity business -- have you added the 20 reps? And then am I fair to assume that the reacceleration in extremity, and I realize one quarter isn't necessarily a trend, but from high single digits this quarter to low double digits for the year, the acceleration is largely based on the performance of these new reps?

Jason, it is Pete Arduini. Yes, we were targeting 150 this year, and we are on track to adding that level of folks, so we have a good portion of those already on board. And, you know, we see typically three to four month kind of window, four month window to start getting productivity up on some of these reps. So a big chunk of is it is bringing new reps on, as well as some new products that we have got coming out. We typically don't disclose for competitive reasons our extremities reconstruction products, but we have some new products as well. To your point, more feet on the street and with the product portfolio we have, those are some of the contributors that we are tying to that growth.

The other thing is our extremities business is almost exclusively North America, and Europe. And we have added significant infrastructure in developing markets, to expand the distribution of our extremities market. Sorry, the distribution of our extremity product into those markets.

Thank you.

We'll go now to Steven Lichtman with Oppenheimer.

Hi, guys.

Hi, Steve.

Pete, you mentioned about we are going to hear more about international expansion throughout the year, and Stu, I think you touched on this as well. I was wondering if you can flesh out more about where in particular we should be focused on you making investments? Have those investments already begun? Any more color in terms of where we should see the big push internationally over the next few years?

Okay, so about two or three years ago we acquired our distributors in Canada and in Australia. And in the last year, we terminated and took ownership of all of the product lines of other distributors in those markets. So we bought one of our dealers in those markets and then terminated the others and went direct through our dealers. Similarly, we are looking at acquisitions of dealers around the globe, certainly in developed markets, but also in developing markets.

Now, in addition, we have expanded our head count in Latin America, somewhat substantially and in Asia-Pacific as well. An example would be is we just hired a China country manager. Historically we managed Asia literally through a small group of people, mostly based in the US and Singapore, and now we will be adding country managers in many of the Asia markets,again, not to be direct in those markets but to manage more closely and to provide more support to our distributors in those markets. So key markets for us, not surprisingly, are China, India, Brazil, and Middle Eastern markets in particular Saudi Arabia.

Great, thank. Just following up on the spine distributors. I'm not sure if you mentioned some of the puts and takes. Where are we in that process? Are we complete through that process on reorganizing the distributor base there in spine? Or if not, when do you think that sort of completes?

I -- it will be complete when we are growing in the mid to high single digits. You know, we aren't happy with the performance of our spine metal business, and for us to say we are complete, I think would be premature. We certainly have a group of dealers who we are working closely with, and we feel good about. Can their performance improve? Obviously. So I don't want to call that until we actually put up some good numbers for our investors. I will say we have essentially completed the integration of orthobiologics with the spine dealers. And so virtually, all of our metal dealers now carry Integra orthobiologics products and that in conjunction with the performance of the non-Integra spine dealers have allowed us, particularly in the US, to really expand our orthobiologics. And that has been a sustained improvement over the last several quarters and I would call that one done.

Okay, great, thank you.

We'll go next to Bruce Jackson, with Morgan Joseph.

Hey, Bruce.

Thank you for taking my question. I just wanted to take a look at the new orthopedics guidance for the rest of the year, and I was hoping you could give us a little bit of color on some of the components of the forecast in terms of the procedure volumes, how much the new products will distribute to the revenue numbers? Are there any currently missed gains and are you factoring in any market share gains?

That's a big question. Let's see if we -- some of it we answered. I would say we answered the question I think in spine and orthobiologics in terms of our expectations, and we have essentially brought down our expectations for the remainder of the year in spine and orthobiologics to low sing digits and we have said that in terms of metal we are currently our expectation is similar to other companies that year-over-year pricing in the spine metal is down plus or minus 5%. We haven't seen that compression in price in orthobiologics.

In extremities, we are still getting both price and volume. And clearly most of the gains are driven by volume, but there's not been the kind of pricing compression that we have seen in spine.

And then we have in the private label business, which we are now saying although we had a pretty good first quarter, we are saying we expect to be essentially flat for the year. Those are all OEM relationships with bigger companies and we don't get much price from that. So I think that's about as much detail for such a big category as we can provide, unless you have some specific follow up questions, Bruce.

No, that's exactly what I was looking for, thank you very much.

(Operator Instructions). We will go now to Glen Navarro with RBC Capital Markets.

Hi, Glenn.

Good morning, two questions.

One, just wanted to a follow up on the gross margin one more time. It did come in very strong in the quarter, beat our expectations by 100 basis points. And I would have expected a much lower gross margin, given that orthopedics came in light relative to our expectations. So I just want to make sure I'm not missing anything.

You are attributing the improvement solely to manufacturing variances. So that's question one, and then two, I just want to make sure that the mix benefit from orthopedics once it does recover if that is still a viable fort he company. So that's two questions on gross margins, and I have one follow up.

On the question in gross margins in general, and this is a little by repeating things we have said, and this call on variance call as little bit saying it differently -- there are obviously a lot of things that go in and out of gross margins as a topic that we can and do discuss for much longer and a much more detailed and whatever during this call. So we try, when we characterize what has happened in gross margin in a quarter, to give you the element that we think most fairly completely characterizes whatever happened, whether up or down. And this quarter it was simply that fewer manufacturing variances -- the hedged on inventory in effect came out through the product sales. So that was the thing that stood out most significantly as a change.

Now, as to the question of the impact of mix. Mix historically has been a -- mix changes have historically been a tailwind in our gross margin. What has happened I think if you think about it and have been following the company for a while, the relative growth rates of our different businesses have converged to some degree. And that was especially so this quarter. So when that happens the mix shift becomes much less pronounced. Now, as you say, in the mathematical matter, if those growth rates widen again in favor of the higher margin products as we expect over the long term that will have a contribution to mix. The extent of the disparity and those growth rates will have significant impacts,one way or the other.

But I think that the constant message from us has been, is that if you do the math, and think about the diversity of our supply chain, it doesn't take a lot to have certainly a sub-one point influence on gross margin from one quarter to the next, so we encourage everybody to look at it in sort of a rolling basis over time. Are we making improvements? Are we not?And as Stuart said earlier, the first quarter in our mind was gratifying and is really going to go a long way to helping us make our objective for the year. But it's not the end of the story.

Glenn, to your question, the margins in ortho and neuro are significantly higher than in instruments. So as you look out at the longer term growth rate that we gave to our three to five year guidance, you absolutely will see an impact of mix. But with the current 2011 growth rates implicit in the three different areas, mix is just not going to make that big of a difference.

Okay, and just one quick follow up, in was the first quarter in a while where you handily did not beat EPS,consensus EPS. When I look down in the P&L, it looks like SG&A spent at least relative to our expectations, what was a lot higher. You mentioned you were hiring 20 extremity reps -- were there any other one time expenses in SG&A that you saw in the quarter that won't be repeated down the road? Thanks.

Okay, a couple of things. First, it is true that we essentially hit the street. I would make the point that the street drifted up reasonably significantly from when we gave our guidance. And what I mean by that, when we talked about the expectation of Q1 compared to Q4, and the implicit revenue growth rate,the words we use would not have gotten you to 181. It would have been a lower number. So we were -- I guess a little bit surprised by the street number creeping up to 181 for Q1. So a little bit I think the fact that we have been beaten so much that the average moved up on us.

In terms of the second quarter coming up, just keep in mind what we said, which is that second quarter 2011 revenue will be sequentially higher by 3%, or roughly 4% to 5% above the level that we reported in Q2 last year, and further that we expect our adjusted earnings per share in the second quarter to be $0.02 to $0.03 higher than Q1. We gave similar commentary last quarter and the street ended particularly on revenue as little bit higher than we expected them to be.

In terms of SG&A going up this quarter, actually, SG&A was pretty much in line with our guidance, and the adjusted -- on an adjusted measure. But keep mind, we talked about close to $3 million of expense in the quarter, and we show this in the table as back of our press release, attributable to our ERP implementation, and that represents two of the gross margin points over the 42. So adjusted SG&A was about 42%, the SG&A as reported was 44%, and so that ERP implementation will continue to persist throughout the year. We gave a number of about $13 million for the year, and then starting in 2012, that will just for the most part disappear as it were, because under accounting it becomes capital. And then only gets depreciated over the life of the ERP system. So I hope that gives you the color you were looking for.

Yes, very helpful. Thank you, Stuart.

Our next question comes from Bill Plovanic with Canaccord.

Good morning.

I think everything has been answered, but I just wanted to ask a similar question. It would seem to me that in some of the commentary you have made that spine, the acquisitions are a lot more meaningful given the macro-environment, where I wanted to ask if you look at extremity, given the capital raised by competitors. You have just a lot of people out there really kind of fighting in that market, would you say is it much more difficult to make acquisitions in the extremity market than it was a couple years back?

I would say yes. I think the answer is a couple years back, very few people paid attention to extremities. And so really was just several of us smaller companies that were looking there. With the profile and the good performance that we and others have put up, there's no question some of the larger companies are looking to acquire product lines in the extremity area which makes the competition a little bit tougher. Now, the good news is there's probably 50 small extremities companies, so you know at some point, there will be plenty available to acquire. But I would say the pricing has gone a little bit hoppy in extremities compared to spine or other areas.

And then do you think -- again, given your comments ton spine market, do you think we are at the point where these smaller players are -- I don't want to use the word desperate, but they are at the point in which they are willing to negotiate at the prices you are willing to pay?

Generally, yes.

Okay. Fantastic. And then just one clarification question, you have a lot of expansions going on, how much of that is in the capex guidance of $40 million to $45 million in 2011? And what is the cadence of that spending?

So I think we said in the script, to go ahead and model about $12 million a quarter. Capex for us never comes in exactly at the flat quarterly modeling rate. But from our perspective I think that's the best way to look at it. We do expect to hit the capex number for the year. Precisely the quarter in which it falls is a function of how each significant project moves along. And those projects are always subject to the variables of the projects. But that's the best way to look at it. Was there another element to your question, Bill.

That was it. And then if I can go back, I mean -- you have these beach heads of neuro, ortho, instruments. Could we see an expansion in ortho? Would you be willing to go into total joints or other verticals within ortho? Or is it really just focusing on expanding on your biologic spine and extremity distribution efforts?

Look, we have said that these platforms are plenty enough for us to drive both our internal growth expectations and our acquisition growth expectations. So our full expectation is to invest in acquiring instrument companies, neurocompanies, spine and extremities. We have put off the idea of adding another platform to the company.

Now, that being said, anything is possible. So I don't want to be on the record for saying we wouldn't look at other areas. But it would really have to be A, financially very attractive to us, and B, very synergistic for us to want to look at adding a new platform. Over the years we have said that the area of greatest interest to us for a new platform would be in ENT, ear, nose, and throat area, where the call point is just so close to neurosurgery. But you never rule anything out, and I don't want to ever be called a liar so you just never know.

Great that's all I had, thanks.

(Operator Instructions). And with no questions in the queue, I will turn the conference back to representatives for any additional or closing remarks.

Thank you all for joining us for our Q1 2011 earnings conference call.

Ladies and gentlemen, that does conclude today's conference. Thank you all for your participation.