Integer Holdings Corp (ITGR) 2007 Q1 法說會逐字稿

Welcome everyone to the first quarter Greatbatch Incorporated earnings conference call. Before we begin, I would like to read the Safe Harbor Statement. This presentation and our press release contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and involves a number of risks and uncertainties. These risks and uncertainties are described in the Company's Annual Report and Form 10-K. The statements are based upon Greatbatch Incorporated's current expectations and actual results could differ materially from those stated or implied. The Company assumes no obligation to update forward-looking information included in this conference call to reflect changed assumptions, the occurrence of unanticipated events or changes in future operating results, financial conditions or prospects.

I would now like to turn the call over to today's host, Treasurer and Director of Investor Relations, Tony Borowicz. Please proceed, sir.

Thank you, Latisha, and welcome everyone to the first quarter Greatbatch earnings conference call. On the call today are Tom Hook, our President and Chief Executive Officer, Tom Mazza, our Senior Vice President and Chief Financial Officer. I'm also pleased to have on the call today Mauricio Arellano, our Senior Vice President of the Medical Solutions Group.

In terms of today's agenda, Tom Hook will focus on the discussions on sales growth drivers in the quarter and provide summary comments on the strategic rationale of our capital structure transactions. Next, Mauricio will discuss the merits of the BIOMEC acquisition, and Tom Mazza will conclude with an overview of the Q1 results and also discuss our 2007 financial guidance. As we've done in the past we've got slide visuals that go along with this presentation, hopefully you'll find those helpful. We've got a lot of numbers to cover today with respect to the convert transactions and all those are detailed on the slides.

So with that introduction, let me turn the call over to Tom Hook.

Thank you, Tony. We had a solid start to the year, achieving record sales of $77 million, a 13% increase over last year. Medical sales were at an all-time record of $65 million and the commercial business achieved solid double-digit growth of 11%. We earned $0.43 on a GAAP basis in the quarter compared with $0.28 last year. This result is inclusive of a onetime gain of $0.11 from the exchange of a $118 million of our subordinated convertible debentures.

We have recently completed several important events. First, we significantly enhanced our capital structure by refinancing our existing convertible debentures and issuing $80 million in new debentures. Second, on April 3rd, we completed the acquisition of BIOMEC, which expands our offerings to include design service capabilities. And third, we received customer clearance to complete the closure of our Carson City facility, which is now scheduled for June 2007.

We will discuss the refinancing and acquisition in more detail, but first let me start by discussing the sales growth drivers for the quarter. Our ICD capacitor sales more than doubled in the quarter to $8.5 million, a $5 million increase over the prior year. Our manufacturing team did an outstanding job of meeting this substantial ramp up in demand. Our lean manufacturing systems enabled reduced lead times to capture the significant revenue opportunity. Approximately half of the increase in the quarter was due to inventory adjustments by our customers in the fourth quarter 2006, which resulted in inventory replenishment in the current quarter.

In addition to the inventory related demand, sales increased as a result of a near-term customer supply issue, which we anticipate continuing into the second quarter. We also continue to experience solid growth in our feedthrough business with sales increasing by 13% from last year. The majority of this growth has come from domestic market share penetration.

Moving on to other medical markets, our sales increased by $2 million, a 70% increase from last year. As a reminder, other medical sales consists of assembly, coatings, and machine components. The growth in this quarter was evenly split between the coatings and the assembly products.

Let me now turn to a discussion of our medical battery business. ICD battery sales declined by 8% and pacemaker and other battery volume increased slightly from the first quarter of last year. However, on a sequential basis, ICD sales were up 16% from the fourth quarter 2006. The first quarter 2006 represented our toughest year-over-year comparison. ICD battery sales softened throughout the balance of 2006, reflecting the general market slowdown in the ICD market.

On the commercial side of the business, sales were up 11% from last year. The growth in the quarter primarily came from oil and gas, pipeline inspection, and the military markets. Oil and gas drilling activity remained strong and continued to drive the core growth of the business.

From a manufacturing standpoint, we are doing a terrific job and effectively managing our capacity. The growth over the last two years of 60% has resulted in launching our capacity expansion plan a year sooner than originally expected. We're in the process of developing facility plans, which will more than double our existing manufacturing capacity.

We plan to begin construction of a new 80,000 square-foot manufacturing facility in Massachusetts in the June timeframe of this year. We expect to complete this important expansion project by mid-2008. In addition to a new expanded facility, we will be investing in semi automation equipment that will help us improve margins and drive added growth.

As mentioned earlier, we completed a number of important strategic initiatives in the first quarter. Let me expand on these discussions. Over the past two years we've been focusing on optimizing our organization. We successfully moved 70% of our revenues by streamlining our manufacturing footprint from 13 facilities ultimately down to four locations. This initiative will conclude with the closure of the Carson or the Columbia facility, which is scheduled for completion in the second half of this year. In addition, we reduced our overhead structure to align with the streamlined manufacturing operations. With the completion of the optimization phase, we are now in a position to leverage this infrastructure to drive increased profitability and inorganic growth.

The next step was to enhance our capital structure, providing added financial capacity to fund our growth plans. We created financial flexibility by completing the exchange of 70% of our existing convertible notes. We added to our near-term liquidity runway by extending the effective maturity of these notes by three years.

At the same time we raised an additional $74 million net of fees and discounts from the sale of new notes. Together with our existing cash, we ended the quarter with $226 million of cash and investments on the balance sheet.

The second phase of the capital structure program was to establish a new revolving credit facility. We have received commitments to increase the size of this facility to $235 million with the potential to expand the size by an additional $100 million to $335 million in total. Currently, our revolving credit facility is undrawn.

Combined with our existing cash, we now have in place over $400 million to fund our organic and inorganic growth strategies. In that regard, we have what I will describe as a very active corporate development search process underway. We have a number of potential target companies that we are in various stages of evaluating on both the medical and commercial side of our business. We plan to complete a number of product and technology acquisitions over the next several years.

We remain extremely disciplined in our approach to finding the right companies that will complement our existing businesses and meet our financial criterion. In the quarter, we completed the acquisition of a technology company, BIOMEC. At this point I'd like to turn the call over to Mauricio Arellano to discuss the strategic merits of the BIOMEC acquisition.

Thanks, Tom. I am very pleased to describe for our shareholders the strategic aspects of this transaction which are numerous. First, in terms of background, BIOMEC, located in Cleveland, Ohio, is a medical device design and engineering company. Its mission is to accelerate the commercialization of medical technologies from the leading medical institutions, universities and national laboratories.

BIOMEC employs 15 people who provide extensive engineering capabilities in medical devices including mechanical, software, electrical, and chemical engineering expertise. Their quality system is certified to the ISO 1345 standard and they are also an FDA registered facility. BIOMEC's business model consists of receiving funding through research grants to drive their development efforts.

BIOMEC has grants in place that will fund substantially all of its development costs through 2008. Currently, the engineering team is working on various projects, including a biomimetic coating to prevent clotting and infection of blood contacting devices. We believe this coating is synergistic with our own development efforts and represents a growth opportunity for Greatbatch.

In addition to the internal development programs outlined, BIOMEC also has formed a number of important clinical partnerships. BIOMEC has a minority ownership position in Intellect Medical. Intellect focuses on the development and commercialization of novel neurostimulation systems for improving the recovery of brain injury patients, and is currently in development of a deep brain stimulation system for stroke patients.

Intellect is working in conjunction with the Center for Neurological Restoration at the Cleveland Clinic to drive these important neurostimulation development efforts. BIOMEC currently provides engineering services to Intellect to support its development programs. Intellect, along with the Cleveland Clinic represents two key clinical partners for Greatbatch. These strategic relationships will be important in advancing our own development programs for the rapidly advancing neurostimulation market.

In summary, the acquisition of BIOMEC offers several strategic advantages. First, we now have in-house design service capabilities; formerly, we had to go outside for these services. Second, by adding design service capability, we are in a position to speed the growth in our Tijuana facility in support of neurostimulation opportunities. Third, we gain access to some key product development programs such as the biomimetic coatings. And fourth, we have established a strategic partnership with an early-stage neurostimulation company in Intellect Medical.

We are very excited about the opportunity to provide complete device solutions for our customers. And we believe this acquisition will prove to be instrumental to our success in various emerging markets. Let me now turn the call back over to Tom Hook to provide his summary comments.

Thanks. Let me just provide a quick update on some of our own internal development programs. The key battery development program continue to be our Q series products. We expect a second customer to begin implanting our QHR technology in the near-term. We also released a new non-proprietary model of medium-rate implantable Q series batteries.

Together these products represent a significant advancement in primary battery technology. In addition to primary batteries, our rechargeable battery program also continues to make progress and qualification and is receiving tremendous interest from neurostimulation companies.

In addition to our battery programs we continue to advance our ICD capacitor technology with the development of a higher energy capacitor expected for release in 2008. Furthermore, we continue to develop the technology for a next generation higher voltage capacitor. Finally, enabling safe MRI device interaction continues to remain a key focus and represents a potential growth opportunity for the company. We anticipate unveiling a series of new technologies at the upcoming May Heart Rhythm Society meeting. Look for more to come on this important development program for Greatbatch. Now let me turn the call over to Tom Mazza to review our financial results.

Thanks Tom. I would start with a review of our quarterly income statement. We achieved gross margins in the current quarter of 37.2% compared to 40.6% last year. The primary reason for this decline is lower ICD battery sales and production volumes compared to last year. On a sequential basis, the gross margin improved from the 36.4% achieved in the second half of 2006.

SG&A expense as a percentage of sales remained relatively flat compared to last year at 13.1%. The first quarter includes about $300,000 to $400,000 of expenses, primarily noncash stock-based compensation that are not expected to be repeated in the final three quarters. RD&E expense as a percentage of sales declined slightly to 8.4% from 8.7%. RD&E expense of $6.5 million remains in line with planned spending.

The aforementioned unfavorable product mix and manufacturing volume variance caused by the lower ICD battery volume accounted for essentially all of the increase in adjusted operating margin from 18.7% to 15.8% in the current quarter, that's a decrease in operating margin of 18.7% to 15.8% in the current quarter.

Turning to earnings per share, we've reported GAAP EPS of $0.43 compared with $0.28 in the first quarter of last year. Two primary factors for the increase from last year were one, we recorded an $0.11 gain on the exchange of the convertible debentures, and two, the move related operating costs were lower than last year by $0.03. Excluding these factors adjusted earnings per share were $0.36 compared $0.35 last year.

Let me now turn to a discussion on the impact of the convertible refinancing on earnings per share. Please refer to the slide for detail calculations, but let me summarize the impact for you.

As a result of the convertible exchange we recorded an $0.11 gain. Since the exchange was finalized near the end of the quarter, the exchange had no other impact on net earnings or EPS for the quarter. For the full year, the convertible exchange is $0.10 accretive. This is comprised of $0.11 gain on exchange, less $0.03 for the additional net interest expense, plus $0.02 for the impact of adding the net shares settlement feature on the convertible debentures. The net shares settlement feature allows us to exclude the underlying convertible shares from the diluted share count. However, we do not get the benefit of the interest expense addback to the EPS numerator.

Looking beyond 2007, the full year impact of the exchange, again assuming no incremental shares, is approximately $0.03 accretive. Again, please refer to the slide that go along with this presentation for the complete details of the convertible exchange.

Before I discuss the adjustments that were made to our full year guidance let me spend a brief moment on the impact of the BIOMEC acquisition. As discussed, BIOMEC receives research grants which fund their development efforts. Initially, we assumed that these grants would be treated as revenue. However, after further detail review we've concluded that the majority of these grants will be treated as an offset to RD&E expense as opposed to being treated as revenue. Therefore, we are not adjusting our full year sales guidance for the acquisition of BIOMEC.

Further, we are assuming that these research grants will offset the development expense. Correspondingly, there will be no operational EPS impact of the BIOMEC acquisition. We will be completing our purchase accounting review of this acquisition in the second quarter, and then we will make a determination if there is an in-process R&D charge or other one-time charge associated with this transaction.

Let me now turn to our full year guidance. We are reiterating our top line guidance of $295 million to $305 million. We are increasing our GAAP EPS guidance by $0.24. $0.10 of the increase is due to the aforementioned impact to the convertible exchange.

In addition, we made the following adjustments. We increased EPS by $0.04 due to the impact of the lower tax rate and by $0.11 for a onetime gain from the sale of a non strategic investment that was completed in April after the first quarter close. We also reduced our guidance by $0.01 for the interest impact of using $11.4 million of cash for the BIOMEC acquisition.

In terms of adjusted EPS, we raised our guidance by $0.13. This takes into consideration all the $0.24 in adjustments just described except the gain on the exchange. That concludes our prepared remarks. I will now turn the call over to moderator to facilitate question and answer.

(OPERATOR INSTRUCTIONS). And your first question comes from the line of Glenn Reicin representing Morgan Stanley, please proceed.

Good morning folks, two questions. Can you talk a little bit about the capacitor issue? You know, with -- in the quarter you said there was a inventory adjustment and you said that was actually a supply issue. Can you talk a little bit about what the customer is experiencing in terms of supply problems?

I can -- you know, I'll touch on both points. What we've concentrated on doing and putting in the new manufacturing capabilities is being able to respond to customer demands and inventory adjustments, which tend to be somewhat lumpy because of the size of the order, as it goes over the quarter end points. So what we do is we maintain ourselves focused on their demand profile and we don't really drill down into what's causing their supply chain to go up and down because normally we're not privy to the information.

So we've maintained our production plate, the manufacturing team has done a phenomenal job responding to the demand which gives our customers more flexibility because we have shorter lead times and more responsiveness. But we don't drill down into (multiple speakers).

Is it the customer that makes their own capacitors otherwise?

I -- we've just -- Glenn I won't -- you know, single them out. So we have three prominent capacitor customers all which are -- been -- have using the product element qualifying it, and obviously it's an existing customer since we've been actively selling to all of them.

Okay. And then I'm trying to drill down another issue which is incremental profitability. I think you've typically said that you'd like to achieve -- I think $0.40 to $0.45 of incremental profit for every dollar increase in sales. I think you had said that before. And in this quarter if I look from Q4 to Q1 it was -- it was up in the mid 20s. Can you may be talk a little bit about that, is it pricing, is it the stock-based compensation issue whatever you can do to help us understand that?

Yea, Glenn. Pricing year-over-year is really less than 1% for the first quarter of this year. So we're not seeing huge issues. Yes, we did see a little bit of about $400,000 worth of expense in the first quarter that we don't expect to repeat in the back three quarters, primarily stock based compensation as well.

So it is primarily those two reasons. It is a bit of the mix issue as well -- as you can see, the capacitor volumes were up and the battery volumes were down, the ICD battery volumes were down.

Is 40% still the number to use going forward?

Yes.

Okay. And then finally and I'll get back to in line. What is the investment gain in the second quarter, what is that investment?

We're not prepared to tell you exactly who it is, but it is about -- it's about $0.11 a share, it is a non-strategic investment. It is an investment that we obtained through one of our -- until that goes through we want to make sure that we are not disclosing it today.

But that is not your investment in a CRM company that you have.

No.

Okay, thank you very much.

And your next question comes from the line of Stan Mann representing Mann Family Investment, please proceed.

Good job on topline, gentlemen. I've a basic question, and that is looking down two or three years, what does your earnings, your gross profit operating margin, what does your model look like? Because it's really confusing to try and reconstruct.

Right, it's well, just as a matter of practice, Stan, we don't guide our gross margin numbers, we guide the operating income.

Okay, operating income, looking down several years what is your model, what's your goal?

The model we have been marching to historically from a long term perspective is to attain and maintain a 20% operating income, and what we've done is to clarify -- is we are including our FAS123(R) expenses in that as well, so that it's clear what we mean by 20% operating income.

We are not there yet, but as you know the consolidation activities we are embarking on to complete this year, closing Carson City in the June time frame this year, and then closing the Columbia facility in the second half of year should bring us to a run rate basis exiting 2007 at 20%. And our intention is to do that on a go-forward basis and continue our ramp of R&D spending to keep the new product development funnel fresh. So we won't achieve 20% by cutting back on R&D.

Okay, my model shows greater than that. But Carson City, can you elaborate a little at -- that's the operation you kept open for Boston Sci, so can you give us a little more information if you can on Carson City and the exiting and the customer involved?

Yes, we don't talk about the specific customers but Mauricio Arellano manages that. I'll let him answer the question.

One of our customers was working through qualifying the products and finally we got the green light, products are qualified. As you already know, we have been servicing all of our other customers already at the Tijuana facility achieving the quality and level of service that our customers expect out of us. And this just shows the final, the final move, and it will be be fully integrated and ramped up at our Tijuana facility by the end of June.

I think this is an amplifying comment, our commitment to our customers is that we will not shut down any facility until they are 100% satisfied that the production in Tijuana and the inventory position is correct. That means that even though we may move 90-plus percent of the product line, one product, even if it's limited volume, will hold us up from closing the facilities.

So we are working very closely and being very customer-centric with the shutdowns, and but we've been also been very fair to ourselves that we are extending the time frames. The management team here is covering the missed operating margin within the core business and not asking for pro forma adjustments.

Okay, last question on ICD batteries. Are you seeing a return to more normal utilization or growing utilization? It seems like the trending is up.

Yes, I think definitely the comparison from the last quarter of 2006 to now was favorable. We do think the year-over-year comparison by quarter is really tough given the dynamics at the time in 2006. So we are still optimistically looking for signs of the market recovery, but we are managing the company conservatively.

Again I'll re-emphasize the amount of work that the business have done in their manufacturing operations with regards to lean manufacturing implementation specifically, so we can be very efficient in the current lower growth profile of the industry. But if the growth comes, as you can see from the capacitor example, we can ramp and provide products to customers quickly and take advantage of the recovery in the industry.

And from the line of Lehman Brothers with the next question we have Bob Hopkins. Please proceed.

Thank you and good morning.

Thanks, Bob.

First on the capacitor side, you are talking about an inventory issue. One of your customers having an advantaged effect on your first quarter numbers. I'm just -- since capacitors are obviously an ICD line item, I am wondering why you wouldn't have seen the same sort of thing in your other ICD based line items like ICD batteries. Why would that just manifest in capacitors?

Well, I think there is multiple variables going on here Bob. Certainly, the overall market growth in -- is quarter to quarter affects ordering patterns on an overall basis. But in that we make components, capacitors for various types of product lines, there is a lot of variables that the customer controls. Mix, generations of device, their inventory positions as they are making their plan adjustments.

And since we have a relatively low market share of the overall capacitor market, it's more or less a signal that as models that use our product are being utilized, or they want to take advantage of our manufacturing flexibility to provide those products, they can trigger that. I mean -- and I would just remember -- remind you that on a market basis we have less than 20% market share of the high energy capacitor market. So the numbers you see, while definitely very significant, they are nowhere near where we have from the market share perspective on the battery side of the business.

I know you guys won't comment on this, but it seems to me the only customer that could have possibly moved capacitor sales that dramatically one quarter to the next would have been Boston Scientific. And I am just wondering, you started out by saying you guys executed very well with this increased demand, was the -- it sounded like a pretty big issue. Were you able to meet all of their incremental demand or just enough to keep them happy?

Yes. We are prepared to meet all of the demand of any customer, that's how we planned our manufacturing capacity. There is a somewhat coincidental nature to things. We have always described when things are lumpy, in favor of us, and also when they are not in favor of us.

Here is an example of -- over the year end some substantial orders coming over into the first quarter from the fourth quarter. So we tried to call that out separately, really from a onetime issue that allowed us to come through, and in ship incremental volume to a customer. And I -- we just won't comment on which of the three customers it is. They are all very significant, and we treat each obviously with strict confidentiality.

But the numbers of all three customers have gone up and they are significant, and we do expect in the second quarter that we are going to have somewhat of a continued effect of this. It's our goal to work with each of the customers and obviously maximize the value we deliver to them and get qualified and utilized more heavily. So on the operating performance side we want to show that we can respond, and in this case the manufacturing teams have done a magnificent job of doing that.

Okay, fair enough, and then one other question on your clear comments, introductory comments about strategic development opportunities or business development opportunities going forward. From an acquisition perspective, what -- specifically, what metrics do you look at? You mentioned the financial criteria that will have to be met. Could you just give us a little bit of understanding what those financial criteria are and would you accept dilution? And one other corollary there is -- would you ever go into a situation where you are going direct to an end user doctor customer, or is it mostly going to be the kind of business you have right now?

No, it's a great question Bob. The first thing we are looking for obviously is the strategic fit with the company, and we have done a very good job of mapping that out for Greatbatch and coming up with a pool of candidates that we've been talking with. Our strategy is to be a products and services company at the component level for major OEMs in the implantable medical markets. That's our focus, we are not interested in providing end medical devices to clinicians.

However, we have found that there is a need to provide design engineering services, a service element to our business. It goes beyond just individual components. More toward subassembly system design and integration as a value added offering to our customers. It's, I think, somewhat important to understand that we have the discipline financially. We obviously have the financial resources, but we have the discipline internally to financially do deals that are favorable to us. And what I'll do is I'll let Tom Mazza talk to a little bit what we are using as financial criteria and for the business development efforts.

Yes, Bob, I mean, clearly we have two types of acquisitions we are looking at, as Tom says. Some are technology plays, but those that are growth in size plays and market plays. I mean, clearly, we are looking for revenue growth -- it's one of our metrics, discounted cash flows. And clearly accretion, dilution, over the long-term is definitely a major factor in our consideration. We probably would not consider something that is dilutive by year out in our analysis.

And you mentioned subassembly, does -- do you still have a 20% operating profit margin goal, even if some of the acquisitions may involve what is inherently a lower margin business like subassembly?

Well, I would say that when you look at each of our business lines they have different business economics to them, but I would not be so quick to characterize our efforts as to getting into just contract manufacturing. We're interested in being able to deploy our technology and manufacturing capability to drive value for our customers, but also to be rewarding financially for the company. So we feel that every product line we're in, we can achieve the operating income contribution that we want to deliver the 20% overall operating income number. So whatever acquisitions we look at, we want them accretive to the top line, andwe want them accretive also to the bottom line.

Okay, and then last question, I'll get back in queue. You updated us on the ICD capacitor technology in an '08 release. Is that '08 release the release of a two cap system that can get you close to 800 volts, or is that a little further out?

That's a little further out Bob, but as you know is we don't necessarily control the number. What we're controlling is the actual chemical profile of the capacitor to provide high energy, or as you referred, a higher voltage through the use of a fewer number of components. Largely that's a customer choice. Overwhelmingly, the interest from customers has been for a higher energy device, and so we have provided that qualification information to customers, and we're moving forward with the qualification of the higher energy variant first. We're following that up with the higher voltage program, and trying to garner interest in that as we continue to grow the capacitor business.

We think, based on indications we received over the last year and a half, there's a substantial amount of interest in it. But it would require some changes to be designed in to the generations of devices that would be commercialized at that point in time. So we have to just keep working closely with our customer. We continue to fund that effort and we've made substantial progress over the past year at developing it.

Thanks very much.

Representing Lazard Capital Markets, the next question comes from Alex Arrow, please proceed.

Thank you, if I could focus on the Electrochem division, the components of that division -- could you give us the difference this year versus the year ago quarter, the oil and gas component, the RFID tracking component, the space exploration, oceanography, I mean, there probably as shifting components amongst those since the growth rate is coming down a little bit this quarter versus where you were a year ago. And also the update on the Electrochem specific sales force.

Sure, it's -- Electrochem has just done a marvelous job at ramping their business. You know, we have had a growth strategy there under Sue Bratton's leadership for the past two and a half years, and what it's shown that we can do is grow that business in multiple markets, and we've had some short term, mid term, and long range projects. The last couple of years, the growth rates were well above where we had planned, and with the current configuration of the 30,000 square foot manufacturing facility we have, we're very close to our capacity limitations in the facility, really working all the usable hours that could be configured.

We've made a lot of gains in lean manufacturing, but we really need to maintain the momentum in that business, start the building of the new facility. And arguably, even though a lot of work is being done because of the heady growth we've experienced, we may be starting a little bit behind schedule, but it's over a year in advance of our original plan to ramp the capacity of that business in the new facility.

So I think, when you look fundamentally at each of the market segments -- whether it's oil and gas, pipeline inspection, seismic, telematics, or RFID -- you will find that we are growing nicely in each of the segments. We even, in looking at an -- making more strategic investments in the military markets, which is a very large market for us. We don't have a large presence in it.

So we think that there's long range opportunities that are favorable. We're executing on our short term priorities. We've done a very nice job of growing that business, but the growth rate is slowing down. We're kind of bumping up ahead on our overhead in terms of the ability to generate more incremental volume. We're still pressing it very hard and keeping a lot of focus on keeping lead time short, the customers would drive sales for us.

Okay, and can you say which of those components is the single biggest out of the revenue this quarter?

It still continues to be oil and gas, and assisted by military as well, have been the main two sectors that are growing.

You know, if I had to break down those percentages, oil and gas is about 70% of our business, military and ocean are both about 10% to 11%.

Those are the key three markets.

Okay, and have we anniversaried the beginning of the first Electrochem sales -- dedicated sales force?

We put the sales team in place, the expanded sales team in place at the beginning of 2005, and I want to emphasize that we need -- we have focused on three things to get this ramp. We put together a very aggressive sales team at the beginning of '05, we put together a very aggressive design and engineering team at the beginning of '05, and we also put forward a very concentrated manufacturing initiatives, and brought in expertise in the manufacturing roles. Those -- obviously, sales has to go out and get it, the engineers have to design it, manufacturing has to build it. It's a much shorter lead time business than medical is, given that the regulatory timelines are different, and the custom ordering patterns typically are tighter.

So it took all three to start that initiative and make it successful, but certainly the sales group going from a couple of people up to a group of ten professionals has proven very effective. In addition to that, the strategic value added resellers that we market a lot of our products to, we've done a lot to invest in their capabilities through training and support, and they've done a marvelous job in various markets accelerating the business.

So we've gone with a direct and an indirect strategy, with highly experienced sales and marketing professionals, and it's proven, and continues to prove highly effective under Sue Bratton's leadership.

Thank you, so we're well after -- we're well past the anniversary point. There is no new hiring of a batch of Electrochem sales people.

We're still incrementally adding a person here and there. This quarter we're going to add another business development person. We look so opportunistically, and as we see markets that we want to penetrate, we're comprehending the investment we want to make, and there's no doubt that the sales and marketing team will grow by direct employee, but will also grow by us signing strategic deals with value added resellers to drive business as well. So a combination going forward as well.

Okay, thanks. If I could squeeze in one last follow-up on the other medical category. I remember three or four quarters ago, you said one of the trends in the other medical group was the coatings on leads, some of your ICD customers which had -- was fairly underpenetrated or at least much less penetrated than your battery business was. Can you update us on that and whether that's playing a role in the growth of other medical and how far penetrated, if you can say?

Certainly, the coatings business we're looking at for organic and inorganic opportunities. Quickly on the inorganic side, as the BIOMEC acquisition gives us access to coatings technology we've never had before, that is potentially applicable outside the CRM market as well.

The coatings business that we do have are engineered coatings that are used in the -- typically the therapy tips -- the electrode tips, so to speak. We think we still have opportunities to grow that market, that's been very healthy for us. It was -- just like in filtered feedthroughs, there's multiple avenues for growth of that technology. We have just the general ability to do -- and have the customers work with us to adopt the technology for use, but then there's also a lot of interest in other advanced coatings that allow more favorable polarization characteristics for the coating. And as we have the opportunity to commercialize that and where it drives value for our customer, there's an opportunity to supply a more capable coating for our customers and continue the growth at the same time. So is -- the other thing I'll say is the coatings business does relate to our initiatives on enabling the MRI implant technology to be utilized. It does allow us to continue to advance in that area, so that you'll also see an effect from a technical perspective going forward from our MRI initiatives on electrode tips as well.

Well, that's really helpful conceptually, but can you give us a number --

Yes, let me quantify it for you. I think if you read -- in Tom's prepared remarks before, we basically had a $2 million increase in other medical products. That growth was split evenly between coatings and assembly products. Basically, coatings, we experienced close to 20% growth over the first quarter last year.

Okay, so it is fair to say at least that most of your ICD customers, the majority of their units still don't have your advanced coating?

I would -- I would say that, oh, boy -- well, Mauricio, I'd say that there's -- what would you guess is the penetration of that?

I would say that we're about 60% penetrated in that market. And again, when we look at the MRI technology, that provides a great opportunity to couple breakthrough technology and something that clinicians are asking for in terms of the MRI compatible devices, and we have technology again that we'll be launching at HRS which will give us a significant competitive advantage.

Probably -- it's fair to say Alex, in the existing configuration of coatings, the market, we're at 60% but we think the market opportunity to expand the market with technology remains and still gives us plenty of opportunity to grow.

Thank you very much.

And with Piper Jaffray, you have a question from the line of Tim Nelson, please proceed.

A couple of follow ups. Back on the capacitor issue, to beat a dead horse, you mentioned some more of this impact in Q2, could you get more granular on that for us and kind of help us figure out how much more is coming?

I think what we are just focused on, Tim, is we're maintaining our production capability available and being really responsive to our customer. I think we're just providing the comment that it extends into Q2 to foreshadow that the effect will continue. You know, obviously we don't quote bank on these things occurring. Our job is to be responsive to customers and do it very cost effectively and with high capability and high quality. And what we do is then earn our way to continue to grow the business with them, and that's our attitude. So we're putting our best foot forward, showing the performance and being very customer-centric. We know the effect is continuing into the second quarter but we're -- we don't know the length of time that it will continue, and that's about all I feel comfortable in saying right now.

And I will also say just in general, there are other customer programs with all customers moving forward, that are being commercialized at any point in time. So there is -- there is other growth opportunities that exist as well at the same time that will also be responsible for some of the growth. And sometimes in the discussion of these one timers, that are a little bit more transitory in nature, we miss that the overall business opportunity for capacitors is very good for us and we're working very hard at winning and earning that and driving the growth in the current market place.

Would -- just as a follow-up, would you say that then that your capacitor business for the balance of the year is likely to grow faster than your ICD battery business?

Well, that's what our plans would be if we want to do, but largely, we have to win the business in order to make that a reality. So it's up to -- that's largely in our control on a performance basis to do that.

Okay, on feedthroughs, you mentioned your gained market share in feedthroughs in the quarter. Is that new customers or increasing share of the existing customers primarily?

Well, we're always winning, I would say design wins with new customer products. You know, we're very well represented in the CRM customers, and we have done a lot of work to be designed in for neurostimulation and neuromodulation customers. But we're always winning new designs, clearly those volumes tend to be very low in nature, and then ramp over time as the products are introduced, and clearly some of these will not produce revenue for three plus years as they're going through clinical trials and other extended evaluation.

But I think we're winning on a variety of bases. We have feedthrough technology, we have advanced filter technology, we're doing a very good job of capturing the business that's available in the market today. So I think that as regulations continue to advance on the requirements for filtering, whether it's EMI filtering, and certainly in the near future undoubtedly will be something with regards to enabling an MRI implantation or MRI images to be taken from patients with implantable medical devices, it will continue to put prioritization for manufacturers for filtering technology. So all these things will continue to drive that filtered feedthrough business for us. And we're very heavily invested. A great percentage of our R&D resources are put in this area, and Mauricio Arellano's team has done a great job commercializing and growing that business.

Okay, and then finally on excess capacity charges. Could you remind me what they were for the quarter, and how many more quarters are going to run in the appropriate magnitude?

Yes -- yes, Tim, we basically, as we said, we think Carson City will be -- Carson City is now projected to be closed down at the end of June, and we're seeing Columbia in the second half. You know, it's probably about $200,000 to $300,000 a quarter plus.

For each of the next two quarters?

Right.

Okay, thanks.

Your question comes as a follow up from the line of Glenn Reicin with Morgan Stanley, please proceed.

All right, two quick questions. The net shares settlement feature that you have on the converts, does that cover all the converts or just the new portion?

It's the new portion, it's $118 million on the old and the $80 million new.

$118 million on the old, so what's the addback on the $118 million, do you know off the top of your head?

The addback for the number of shares?

No, for the interest.

The interest expense will now be down to about 30% of what it was before. It was about $3 million after tax, it's now about -- slightly -- about $1 million.

Okay, and the second more strategic win, you spend a lot of time talking about acquisitions, you've got a big balance sheet now to make acquisitions. Are you open to any field of medicine at this point or any field outside of medicine? I mean, it seems like you have commercial capabilities now as well, because this has been traditionally a very controversial issue for management teams at Greatbatch, if you can give us your perspective there? And what about size, I mean, you -- it seems like you prepared for a very large acquisition, love to get some perspective there as well.

Certainly, I will start with, yes, we are committed on the medical and the commercial side. We think that the commercial power markets will continue to grow in both primary and rechargeable batteries. So we are looking for targeted technology and other strategic investments -- and I'll emphasize strategic, they have to fit in with our plans of providing high energy high reliability power solutions for customers. Obviously, that's individual electrochemical cells, batteries, both rechargeable and primary charging, and batter management, electronic circuitry, more or less power solutions.

Okay, so we can rule out orthopedics.

I think I -- I'll move on to medical next -- as you know we -- we're evaluating implantable medical markets. We also evaluate orthopedics, we look at the strategic fit, we look at vascular opportunities, neurostimulation, also within CRM. We're not looking for a whale of a deal. We have a lot of visibility to very good small technology companies, small to mid-size product line derived companies that would fit nicely in the business. We look for strategic fit first, where we can operationally and from a technology standpoint have synergies. So while we're looking at a broad set of implantable medical markets, our focus is narrowing down to where the opportunities for fit are the greatest. And so while I think our field of view is wide, we're being very disciplined in what we take an approach in. Just because we have finance and flexibility to do a large deal, that's not our focus. We have a feeling that there's a variety of product technologies in our strategy that we would like to have access to, to provide to our current customers and potentially open markets to new customers, do that on a basis that's going to be disciplined quarter to quarter and certainly are not going to deploy the money on one deal.

So let me prod you a little bit, and let me ask in a different way. Is it the technology that's driving you to the end market or do you have a focus on a specific end market?

I think it's two-fold, as there's markets that we've held out there and prioritized. We've been very vocal with our focus on the neurostimulation market. We look at the technologies we provide to that market, we look at technologies that are selling to that market that we don't have today. We look at how we could add from a technology and a manufacturing capability perspective to enter those markets. And then we go and look for the means that we're going to either, one, organically spend money in R&D to develop those, MRI is a great example; or look for candidates that are available for acquisition or potentially even to make an -- a equity investment in, and then we use that to enter those markets on a more accelerated basis.

So it's both focused on individual products, but it's looking at the downstream industries and how they're developing, and clearly some of those are more short run as the markets exist today, and other ones like neurostimulation are more long-term in development. And we just want to position ourselves to be able to offer a full suite of products, and now design services to the customers so that there are good revenue streams for us. But the strategic set and the opportunity for synergies are very important, but also it's fair to say that we are looking at how market diversification and customer diversification positively affect us as we potentially enter some product categories that sell the customers that are not historically what has made the basis of Greatbatch revenues.

Okay, thank you very much.

And your next question comes from the line of Keay Nakae representing Unterberg, please proceed.

Yes, with regards to the BIOMEC acquisition, how far off are the current product development initiatives that they're working on, how far off are they from generating commercial revenue outside of the grant revenue they received?

When we talk about the biomimetic coatings, which again we feel very, very, very confident of -- of the synergistic (technical difficulty) approach of, and how we can help develop our own development programs -- is we're looking at establishing two key partnerships. One, is we're at a point where we're talking to OEM manufacturers to put together a clinical study, that's where we are on that side. On the other side, we're also looking at developing the -- converting this from a lab product into a manufacturing process, and we're working and -- with several companies, looking at that. So again, we're looking at clinical and we're looking at manufacturing -- developing the manufacturing process.

So it sounds like at least a year if not more. (multiple speakers)

I think Keay, the way to look at it is, is that, these are long-term technologies that have short-term opportunities in our view, which we define year to two years, and longer term opportunities, because there are more at the discovery phase of the technology. And what Mauricio has done a great job of is prioritizing those innovations at BIOMEC for how they filter into our overall strategic plan on a timing basis. But we're excited about the biomimetic coating, but we also know we've got a lot of work with customers to do, and a lot of work to productize the technology to make in a manufacturing environment.

Okay, second question, related to your supply agreements with Boston Scientific. You had the agreements that expired at the end of the year. Without commenting specifically on where those negotiations are, are you more hopeful or less hopeful than, say, where you were at the beginning of the year, of getting something done there, on the terms that you guys are speaking, which I think -- one of the things you're looking for, obviously, is volume commitments. What's your view of that today versus at the start of the year?

I'm always hopeful, I -- it'd be hard for me to characterize my degree of hope. We work very closely there, all of our customers are critical. You're correct that those agreements did expire at the end of 2006, but I also say, as with all of our customers, we're in close engagement with them and working with them very closely. Obviously, the agreements are very complicated and take time to do, and we've been diligently working to complete that.

I don't have anything new to announce. Clearly, the business is continuing on, we don't have long-term agreements with all of our customers. We do business with a lot of customers, purchase order to purchase order. And even though we may have long-term agreements with some customers, certain product lines still tend to go on shorter-term intervals in terms of purchases.

So is -- we're comfortable doing business in either configuration or more directed in terms of our desires to do what the customer wishes and then obviously providing the service that they expect in accordance with whatever contract, be it long-term, short-term, and for which specific products. So I just don't have anything to report, but we're always working this equation with every customer to galvanize what the business is. It certainly allows more predictability going forward to both of us, which lets us both manage our businesses more effectively. So the engagement is still there and it's still being worked actively.

Okay, thanks.

From the line of Lord, Abbett, with the next question we have Gregory Macosko, please proceed.

Yes, thank you. Just to go back to the capacitor and the customer, so I understand that -- does this cut when an event like this happens and you've done, shall we say, done them a favor or helped them quite significantly, would you -- would the profitability on that business be any different from the existing business?

I don't think so, I think when we look -- and our responsibility is to perform for our customers, and when they have incremental needs for whatever nature it is, market opportunities, they want to strategically shift business our way, our job is to perform on it, and we view that is not, like doing a favor, like you said, but more of that is our responsibility to be responsive to have open-ended manufacturing capability. But with that it takes absolute crackerjack performance by the operating teams to deliver that product. But it just goes to show how strong we are operationally to be able to respond to a customer to that magnitude in a short time frame --

That's impressive. And does that have an effect on profitability, did you sacrifice profitability to deliver that quickly?

I don't think we sacrificed profitability to do that. I think there are certainly some short-term natures to accelerate things. There's a lot of sweat equity involved from the team to do this. They're rewarded for performance, so as that incremental volume comes through it's their job to maximize its utilization. So I think there's some positive and negative offsets, but the team has done a very nice job to manage it, and obviously, everybody wants to understand the math a little bit more on that, we don't break it out as in -- I think that the volume came in at profitability were just where we wanted it to be, actually came in a little favorable than where we thought, based on how the team responded, and we maintained our timelines, our cost of manufacture, particularly our scrap under control and we're able to get the products to the customer on a timely basis. So it's a big win for us operationally.

Good. And then on the other -- you talked about the commercial business going 11% and you -- I think you suggested there was some limitation on that growth, was that because of the capacity constraints and your expansion there?

Yes, I really have to be fair to the teams in commercial power. We've wildly ramped our sales performance and our manufacturing and engineering performance in the business. They've done a magnificent job, but you're correct as we're much higher utilized than the 30,000 square-foot facility we had than we were a few years ago when we started the strategy. And I think we're going to just somewhat bump up against -- that's why our guidance in the commercial business was at 10%, but I think the manufacturing team there has done an outstanding job of being able to deliver the volume, and I think it will make continued incremental increases throughout the year.

So I still think from a sales perspective the heat is on us to continue to drive the business, and that's our plans. And at the same time we're building that new facility -- starting in June, we're going to break ground in the state of Massachusetts. And in the middle of 2008, I think we'll have more open-ended capacity available to us to continue a more aggressive growth strategy. But -- it -- we're -- we -- our belt is pretty tight right now on capacity.

And then -- did that affect profitability, would you say that profitability was maybe sacrificed a little bit, because of the constraints and the -- having to run overtime or whatever?

Yes, I mean, -- clearly, when you -- when we reach somewhat non-optimal capacity, when you're at your limit, you tend to have difficulties running efficiently. But I'll also say that we have a lot of markets we sell into, there's a lot of mix effects. So from a macro perspective, it is in effect, but there's a lot of other ones going on, we don't really break them out. But it's the management team's responsibility in that business to manage each one of those variables, and they've done a very nice job. But it is getting tough in the manufacturing plant, trying to maintain an efficient operation, because even simple scheduling shifts can chew up capacities and changeovers very easily with no efficient output. So, it's -- we're just going to have a very tough year to year and a half managing that facility, and it's going to mean that the manufacturing team is going to have to continue to be very sharp for us, which they've been.

And that does conclude today's question-and-answer session. I now like to turn the call back over to Tony Borowicz for any closing remarks.

Great, thank you, there's a lot of great questions. Hopefully you obtained a sense of the result in the quarter as well as our strategic direction. Just want to remind everybody, again, you can access the audio portion of this call or use the slides in our web site. Again, thanks everyone for the questions, have a good day.

Thank you for your participation. That does conclude today's conference.