Integer Holdings Corp (ITGR) 2009 Q3 法說會逐字稿

Good day and welcome to the third quarter 2009 Greatbatch Incorporated earnings conference call. We will facilitate a question-and-answer session towards the end of the conference. (Operator Instructions)

I will now turn the call over to your host for today, Marco Benedetti, Corporate Controller and Director of Investor Relations. Please proceed. Thank you. And good morning.

On the call today, are Thomas J. Hook, President and Chief Executive Officer; and Thomas J. Mazza , Senior Vice President and Chief Financial Officer. In terms of today's agenda, Tom Hook will start by providing a few brief comments regarding our third quarter results. And then, he will update you on our major strategic initiatives. After that, Tom Mazza will provide further comments on our third quarter. We will then open up the floor to Q&A. As we have done in the past, we're including slide visuals that will go along with this presentation, which you can access on our Website. Let me now turn the call over to our President and Chief Executive Officer,

Thank you, Marco. I'd like to thank everyone for joining our earnings call today. We are pleased to be able to share with you our results for the third quarter of 2009. Despite the ever increasing pressure of today's operating environment, we continue to make solid progress towards both our short-term operational goals, as well as our long-term strategic objectives. However, while we are pleased with the progress we have made on these initiatives, we are not satisfied with our financial performance for the quarter. We continue to be impacted by market and economic related issues and are intensifying our sales and marketing efforts to offset these factors.

As you can see from the release last night, although we've continued to see growth in our cardiac rhythm management and neuromodulation revenue, the decline in our orthopedic and electrochem product lines, resulted in sales decreasing 11% over the prior-year period. Our cardiac rhythm management, neuromodulation, vascular access have electrochem revenue have been generally in line with our expectations set at the beginning of the year.

However, our orthopedic sales have been impacted more than we anticipated by reduced spending on elective procedures and increased emphasis on inventory management from our customers amid the uncertain regulatory and economic environment. This drop in orthopedic revenue in indicative of the markets we operate in and is consistent with other orthopedic OEM suppliers. While these difficult factors continue to impact our business in the near term, we remain confident in both the benefits of the business over the longer term and our diversification strategy that was set three years ago.

The decline in revenue correspondingly resulted in a decrease in our adjusted operating income to $13.6 million or 11.2% of sales. While we continue to be satisfied with our operating margin, which benefited from several factors, including higher cardiac rhythm management and neuromodulation revenue, streamlined operations, as well as improved manufacturing and administrative efficiencies. We believe there is still significant room for improvement and a lot of hard work yet to be done. We've continued to institute our operating discipline to improve performance and are making strategic investments to both drive new product developments, as well as a greater operational efficiency. We believe this will provide a significant competitive advantage for us in the marketplace and positions us well to benefit when the market rebounds. Tom Mazza will provide additional detail on our third quarter financial results later in the call.

I think now, more than ever, is a time in which we need to focus on our strategic initiatives, as they will be an integral part of driving our business through this downturn and setting the stage for a strong recovery. In these dynamic economic times, we feel that remaining dedicated to our strategy of diversification, streamlining operational efficiencies and driving growth through innovation, will not only help Greatbatch emerge from the recession a stronger Company but also better positioned to meet the unique customized demands of our customers. Diversification is one of our key long-term strategic initiatives. It has and will continue to create new opportunities, while simultaneously reducing our concentration risk. We believe this will provide greater stability as we move forward and better serve us during the various economic and customer cycles.

We are confident the long term benefit of this strategy far outweighs the near-term impact that we have seen in recent quarters. We are proud of the strides we have taken to diversify Greatbatch and believe, more than ever, that there are significant long-term growth opportunities within the key markets in which we operate. We will continue to integrate our businesses and look for cross-selling opportunities that will drive near-term and long-term revenue growth.

During -- driving operating performance is also a critical part of our long-term plan to drive shareholder value. During the quarter, we made progress with a number of ongoing to consolidation initiatives, as we move our newly acquired businesses to the Greatbatch operating model. More specifically, we've continued to transfer operations from electrochem facility in Teterboro, New Jersey into our Raynham, Massachusetts facility. This project remains on track with our original plans and is scheduled to be completed by the end of this year.

Additionally, we completed the Oracle ERP system implementation at two additional facilities during the quarter and are on track to complete another facility by the end of the year. That would be a total of four successful ERP implementations this is year and nine over the last two years. All implementations have gone very smoothly, with minimum business interruption. These integrations are an example of why we consider operational excellence as one of our core competencies and key strategic competitive advantages. These initiatives, as well as the first round of consolidations completed last year, will continue to drive improved operating margins and help us achieve our financial and operational goals. Looking ahead, we still see numerous opportunities that we plan to tap into. Some of which, I will highlight in a few moments.

Our last key strategic initiative is to drive growth through development, new technologies and innovations. During this economic downturn, when other companies are cutting back on R&D spending, we are increasing our focus on the area. During the quarter, we spent approximately 9.4% of sales revenue on research development, compared to 6.8% last year. This continued investment in R&D will enable us to maintain our leadership position in our core markets and drive further margin improvements once the markets recover. Ultimately, we believe this investment will facilitate a more diverse product portfolio in multiple future growth platforms. Based on our current portfolio and R&D activities, we feel we are in a strong competitive position for future growth and profitability. And we'll see the positive impact on our revenue in 2010.

Before I turn the call over to Tom Mazza, I would like to take a moment to reiterate our belief and commitment to our orthopedic business and our diversification into this market. Over the last 1.5 year, we have spent a considerable item of time talking to customers and analyzing their orthopedic operations. Based upon this analysis, we plan to invest approximately $21 million into our orthopedics business, to better serve our customers and position us to capitalize on growth opportunities once the market recovers. A significant portion of the investment will be dedicated to developing a rapid prototyping center that will be equipped with the latest technology available in order to support customers and their orthopedic instrument and implant development. Construction is scheduled to begin early next year. With completions scheduled for the fourth quarter of 2010.

In addition this initiative, we intend to aggressively invest in our orthopedic business over the next three years, in order to further drive improvements in growth, particularly in our European operations. We are proud the operational improvements made since entering the orthopedic market in 2008. We are embarking in the next phase of our overall plan, which is become the most innovative, reliable and advanced supplier to that industry. While we have experienced some challenges in the second half of 2009, we've also made a great deal of progress. Since we acquired the business, we've been able to improve on-time delivery from 20% to 95%. Improved our average quote lead times from 12 days to three days. And reduced customer production lead time by nearly 50%.

While these are great accomplish accomplishments, we are by no means satisfied. We're moving towards manufacturing excellence, which is a better than 99% on-time delivery, one-day lead time on quotes and even shorter production lead times. We believe that our strong cash generation, operational excellence, portfolio of intellectual property, and effective cost structure will enable us, not only to meet these goals but also continue to increase shareholder value and successfully drive Greatbatch through this economic downturn. With that, I'll now turn the call over to Tom Mazza for a review of our third quarter financial results.

Thanks, Tom. And good morning. Sales for the third quarter were $121.5 million, a decline of 11% from the prior year. Consistent with our expectations, CRM and neuromodulation revenue growth moderated to 5% during the quarter, compared to the same period for 2008. And is now more in line with market growth rates, compared to the above market growth rates experienced over the last several quarters. More specifically, increased growth in medical batteries, due to market growth and customer market share shifts, was partially offset by a decrease in capacitor sales due to inventory adjustments made by OEM customers during the quarter. CRM and neuromodulation revenue can vary significantly from quarter to quarter based upon the timing of customer product launches, outsourcing decisions, changes in market share mix and customer inventory adjustments.

Third quarter revenues for the vascular access product line were $8.4 million, compared to the prior year quarter revenues of $8.8 million. This decrease was primarily due to lower introducer sales as a result of customer inventory adjustments. orthopedic product line revenues were $23.2 million for the quarter, compared to $37.9 million for the third quarter 2008. Current quarter revenues include the impact of reduced spending on elective procedures and increased emphasis on inventory management programs from customers as a result of uncertain economic and regulatory environment and are consistent with other orthopedic OEM suppliers. Additionally, third quarter 2008 revenue included the benefit from the release of approximately $3 million of excess backlog. Foreign currency exchange rate fluctuations had a minimal impact on revenue during the quarter in comparison to the prior year.

Third quarter sales for the electrochem business segment were $15.8 million, compared to $18.9 million in the third quarter of 2008. This decrease was primarily related to the slow-down in the energy and portable medical markets, which caused customers to reduce inventory levels and push back projects. We continue to actively manage our business so that we can we can be better prepared to meet the needs of our customers once the markets recover. Given the reduced rates of electrochem revenue decline compared to the second quarter, the markets appear to have somewhat stabilized.

However, we do not see foresee significant market growth over the next few quarters. We believe that year over year comparisons in revenues will continue to be challenging for the remainder of 2009 for all of our product lines, given the recent announcements by our customers that they have experienced procedure volume declines and softness in hospital purchasing patterns. In the meantime, we will continue to streamline and invest in our technology and operations, which we believe presents us with the best opportunity for growth in the future.

Turning now to expenses. Gross profit, as a percentage of revenue for the quarter, was 32.2%, compared to 30.6% for the third quarter of 2008. This improvement was due to a higher mix of CRM and neuromodulation revenue in the quarter, as well as the impact of consolidation initiatives completed over the past year. Our selling, general and administrative expenses of $15.8 million for the third quarter of 2009 were consistent with the same period of 2008, as normal inflationary cost increases were offset by savings from our various consolidation initiatives and lower performance-based compensation. Over the last quarter and for the remainder of the year, we will continue to take cost cutting measures in order to help offset the impact of our reduced revenue.

Net research, development and engineering costs for 2009 were $9.7 million, which as expected, were 43% higher versus the third quarter of 2008. This increase was due to our strategic decision in 2009 to further invest resources in the development of new technologies in order to provide solutions for our customers and ultimately, create long-term growth opportunities. Operating loss, stated in accordance with generally accepted accounting principles, for the third quarter of 2009 was $23.9 million, compared to income of $15.7 million in the third quarter of 2008. GAAP operating results for the current quarter include a $34.5 million litigation charge related to the previously disclosed electrochem litigation, which includes interest on the jury verdict and estimated attorney's fees.

Adjusted operating income was $13.6 million or 11.2% of sales in the third quarter of 2009, compared to $19.3 million or 14.2% of sales for the comparable 2008 period. Adjusted amounts exclude the impact of acquisition related charges, as well as facility consolidation, manufacturing transfer and system integration expenses, as well as the litigation charges. The adjusted and GAAP effective tax rate for the third quarter of 2009 was 30.2% and 27.9%, respectively. Compared to 36.5% and 41.3%, respectively, for the same period in 2008. The third quarter adjusted and GAAP effective tax rates include the favorable impact of the resolution of tax audits and lapse of statutes of limitations on certain tax items during the quarter. GAAP EPS decreased to a $0.90 loss per share in the third quarter of 2009, compared to income of $0.28 per share in the third quarter of 2008. Adjusted EPS decreased to $0.32 per share in the third quarter of 2009, from $0.44 per share in the third quarter of 2008.

Moving on to our outlook. Based upon third quarter results and lower demand expectations for our orthopedic product line for the remainder of the year, we now anticipate revenue to be between $520 million and $535 million for 2009. Despite this lower revenue, we still believe our adjusted operating income for the full year of 2009 will be line with our previously provided guidance of 11% to 13% of sales due to our ongoing consolidation and cost cutting initiatives. Note, that the fourth quarter of 2008 included 14 weeks, compared to the fourth quarter of 2009, which will have 13 weeks due to our 52/53 week convention.

I want to reiterate that we continually monitor our business due to the current state of the markets. The factors we see potentially impacting this guidance include continued softening in the orthopedic and energy markets, potential delays in elective surgery, foreign currency volatility, changes to insurance reimbursement policies, as well as potential customer inventory adjustments. It's important to note, that we are in sold financial position, with strong cash flows from operations, access to $128 million under our existing line of credit and long-term financing in place. In addition to investing in R&D and new products, our strong cash flows enabled us to pay off a significant amount of debt, amounting to $14 million paid off during the third quarter or 12% of our outstanding line of credit balance.

Overall, we remain focused on our long-term strategic objective of growing revenue faster than our markets due to diversifying our revenue base, leading innovation and providing customers with technology solutions that they need to be to be successful. We have worked hard to implement an efficient operating model, while making the necessary investments to ensure growth across our various product lines. Despite a difficult operating environment, our strong financial position, resiliency of our core markets, as well as the benefits of a more diverse revenue stream, make us confident in our able to deliver more profitable results once the markets recover. Let me now turn the call back over to the moderator to take questions.

(Operator Instructions) Our first question comes from the line of Tim Lee with Piper Jaffray. You may proceed.

Hi, good morning. Thanks for taking my question. Can you help me better understand your orthopedic business? I appreciate that your customers are reducing their inventory levels but sooner or later, I think, that's got to stop. So, when thinking of it on a more normalized basis, is this $100 million annual product line, a $120 million annual product line? Just any type of framework on that would be appreciated?

Sure, Tim. This is Tom Hook. I think you're right. After 2008, a year in which we had a backlog and an extra year in the fiscal year, we spent a lot of effort to eliminate the backlog and get that business operationally performing to meet customer expectations. And I think the outlook of the orthopedic business in 2009 for us, at the beginning of year, is a lot different than it is now. It was a -- the business is split for us. We have an implant-related business that represents about 50% of that business. And then, the other 50% is the instruments and trays business. That instruments and trays business is both European, as well as US based. So the implant business at the beginning of 2009 was viewed to have -- going to be higher growth than it turned out to be.

So the supply chain signals to us were to produce at that higher growth rate. And as you know, as that growth rate has come in lower, due to a lot of reasons, and obviously we're tied to a specific OEM in this business for us. That has resulted in just an excess of inventory in the supply chain, which over the course of the second half of the year is being reduced out. And I view that correction in inventories will normalize out by the end of 2009 for us. But obviously, we're taking the pain now.

The instruments and trays business, for us, is very linked to product launches. And there hasn't been anywhere near the number of product launches in the orthopedics markets in 2009, particularly in the second half. So that business for us, consistent with other OEM suppliers and orthopedics, it's dropped off. And while I think 2010 will have a different landscape than 2009, it just is a concentration of both the inventory adjustments on the implant side, as well as the lack of product launches on the cases, trays and instruments side, has resulted in a bad comparables from 2008 to 2009.

On the good side, it's allowed us to drive at lot of change and make improvements and set ourselves up to start making investments. Because we do think in 2010, there will start to be a recovery in these markets. We do think that the inventory adjustments will be done. Product launches won't be as low as they are or have been in 2009. And our intentions are is to be on a better operational footing, to be much more competitive and to win more business.

Okay, that's helpful. Thank you. Just two other questions here. Just given the challenging environment that you're facing, does this kind of make you rethink of maybe accelerating some of your factories rationalization plans to offset some of the slow down on the top line with better operating margin improvements?

I think we've definitely used the slow down to improve a broad range of operational plans. And that also spills over to the consolidations. I will say that one of the principal limitations of the consolidations, almost always, is the requalification times required on the new projects. So while we have an ability to certainly tighten up and accelerate things, the timing -- it's very difficult to kind of force the timeline to be radically faster. Because the qualification windows can be somewhat onerous. And again, we don't want to have even a single mistake on a ship.

So, we finished the Teterboro one to Raynham, on time and have not had any customer issues or any hiccups there. Certainly, the electrochem weakness allowed us to put more resources on that project to eliminate risk and make sure it didn't go over. We had, I'd say, a month or so of accelerated timeline but not really much more aggressive than that. I think next for us, obviously, is to focus on orthopedics. So, we've laid our plans out. We're obviously going to start making aggressive investments in this area.

We think the operating model we have can make a significant difference in the orthopedics market in serving OEM's. How aggressive we can accelerate those plans is more going to be determined by the product lines we win. If they could be re-qualified in the Greatbatch facilities that are to be constructed and the linkage that we have with the OEM's and the FDA can move along efficiently, without being delayed. But I would not plan on a radical amount of acceleration because that factor is the most important one.

Got you. Just one last quick one. In your prepared comments, you talked about some of the R&D initiatives having a positive impact in 2010. Could you just provide a little more specificity in terms of what type of products that we should be looking for, which product lines, et cetera? Thank you.

Tim, I promised a few times that in 2010, we're going provide, as a Company, a lot more color on where we've been making these incremental investments. Clearly for us, since we only sell through OEM's and exclusively will in the future, those customer programs, we have to very carefully work with the customers in terms of being able to talk to them. We know we're in a position now in 2010 to start providing more color on what they are. And our intentions are to do so and to roll out, during next year, a lot more information on where these product lines are and what they mean to Greatbatch. We think it's a lot of really good news.

It's been extremely challenging to ramp the R&D spending over the course of the years despite the economic conditions. We're very confident it's the right decision. And really by business, from cardiac to neuromodulation, vascular and orthopedics, we look forward to highlighting and talking about those. Because we do think it's a significant opportunity, starting next year, to drive some incremental business and to compensate for some of the malaise we've been feeling in 2009. So, we're not quite prepared for a lot of detail on it now but we will starting the beginning of next year.

Great. Thank you. I'll get back in queue.

Our next question comes from the line of Jason Mills with Canaccord Adams. You may proceed.

Hi, guys. Thanks for taking taking my question. So, Tom, could you expand a bit? You mentioned, within a couple of comments, your plans for orthopedics and looking to expand that business. But maybe, some more specifics and timelines for expanding your customer base in orthopedics? And whether it would be focused on the 50% of the business that is more focused on the implant business or the instrumentation business or equally so in each part? And where the most opportunities for customer acquisition lie, at this point?

Certainly, Jason. I'll kind of stratify it into three buckets. First of all, we view just the whole orthopedics has room to room to grow. I'll start off with the instruments and trays side where we feel that we have needed the most operational improvement. And some of that improvement needs to come through investment. But -- and we have a very well articulated operating model within Greatbatch that we really orient to try to spoil customers with our service and our quality of our product deliveries. So, that they want to continue to come to us to do business. The implementation of that model has occupied a lot of resources within Greatbatch over the past year. And we've put in place a plan of the incremental investments we feed to give us the machine and facility capabilities to really take that to the world-class level. So, where I see a near-term growth opportunity in orthopedics is literally just performing to what customers need for them to be successful. And that has immediate benefits for us in 2010.

The second basket that I would classify would be a basket in which we, as a Company, have only a single implant customer for our implant business, based on how we acquired that business. 2008 and '09 were meant to be able to make that an independent operation, which we've been successful in doing. The next step has been, which we worked on primarily in 2009, is to bring multiple new customers into that operation and to work on qualifying their products. Clearly, on the implant side, this takes time because of regulatory approvals and you have to obviously generate the leads and bring them in and win product line business. Well, we view that really starting in 2010 and more into 2011, those efforts of qualifying more customers in our implant side of the business are proving successful and will yield fruit for us, starting next year.

The third piece, which is longer run than the two pieces I just described, are that we have made a decision, strategically, to invest in the underlying technologies and innovations within the orthopedics industry. And I would say that's consistently with how we look at cardiac rhythm management, neuromodulation and vascular. Is we see opportunities for niche technologies that can be very appealing to the major OEM providers. That we can specialize in and develop technologies for them. And we will highlight these going forward, the areas that we think are very interesting.

And similar to kind of the broader Greatbatch business, by underpinning those technology developments, productizing those innovations and offering those out to the OEM's, will allow us to build the business going forward in the long run with some innovative, intellectual property protected ideas that drive real hard value for our OEM customers. And I think it's the three layers of that that we're focused on, from an operating standpoint and an investment standpoint, to get that business. What would be also particularly helpful would be, if the market comes back to some normalcy or predictability in the regulatory environment, as it applies to health care reform, doesn't change or shift those dynamics radically that kind of swamp those three initiatives that I just talked about.

That's helpful. So, your best guess at this point -- and I understand you're not ready to give full 2010 guidance, but you said the next few quarters, don't expect a whole heck of a lot. I'm not trying to put words in your mouth. Just paraphrasing. But as you look through the balance of 2010 and when we look back on it for the entire year, do you think we're going to see growth in that end market for you?

I think, yes, I think that's fair to say, we will see growth in the end markets relative to us. I'm always cautious when I call things low water marks but with -- I don't think we had a major launch of a program in any part of the orthopedics business in the second half of this year. So, I'm kind of setting off to the side, the effects of health care reform and the global economy, which are big things to set aside. But I will say, that if I just look at that business and what we have to do, our landscape looks better in 2010. And we've planned growth in that business because of the investments we've made and seeing those investments pay off in 2010.

Okay. That's helpful. And just piggybacking on Tim's question. A little bit more on these new product initiatives that you have that you plan to talk about next year. I know one you've talked about in some detail are system-level product sets that. For example, you've talked, I think, publicly already about the cardiac rhythm management side and MRI compatible or MRI-safe filtering technology, which you believe you have a proprietary product there. And capturing the systems level sale by selling the entire lead system with that proprietary component involved. Could you give us an update on how that's going, specifically with Sorin, who you've already talked publicly about winning some business there. And what the prospects are in 2010 and I suppose 2011, given that I think you've said that it's more of a 2011 initiative for you?

Yes, I'd be happy to. There's one thing I'm satisfied with is, as we have integrated more and more of the companies that we've acquired in 2007 and 2008, and we've pulled these pieces together in the corporation and consolidated them. Our able to do more sophisticated projects for customers, including the one that you're pointing out, Jason, which is the MRI lead for Sorin. Is a real major improvement in kind of the overall service and product delivery we can do for customers. I would say, in a general comment, that decision to move in that direction and link tighter and deeper with our OEM customers is, fundamentally, what's driving our increased R&D expense.

What we're doing is, obviously, is we're taking on and spending more engineering and research and development time on projects for specific OEM's and specific companies that, literally, we do a broader basket of the technology development and of the design. And because that, obviously R&D expense is higher but in turn, our opportunities for revenue growth, rather than just being a discreet product or component, they're the whole system, as you point out.

I would say, just in general, while we've only talked selectively about a few of them, like the Sorin MRI lead. We've talked about some sensor opportunities. We'll talk -- the willingness of the customers to let us disclose these has increased. So, we're going to have more flexibility in 2010, being able to talk about these programs. I would say before, we've been under tight confidentiality provisions and we can rarely talk about any of these developments. But by working with them, it's going to allow us to talk more of what this incremental spend is on and highlight these specific product lines. I will say there's been an ever increasing amount and magnitude of them. And because of that, it occupies more of our teams. But the good thing about it is, each of those product component areas are being pushed together for us to do the larger level assemblies and projects.

And it's also important re-emphasize, all these projects are being done in concert with OEM customers. So, we're linking with the market in terms of what they need and pushing the technologies together out to deliver against those projects. So, they're specific. They are niche products. We're not going after mainstream clinical products that they would be developing. We're more looking for complementary and supplemental technologies, which they would normally either design internally themselves. And now, we're offering more full service for them to do these types of products.

And I would I would say that the willingness of the OEM's and the interest of the OEM's has been at a very high engagement level in general. And I think that, starting in 2010, that we'll roll out progressively every quarter more information on this and more examples of what we've won and what's commercializing. And then, you'll this able to track those through their FDA submissions and then onto the individual OEM customers, moving them into commercialization mode.

That's helpful. And now, could you give a little bit more detail on why you think the customers' interest level is so high? Is it primarily because of their heightened interest in the proprietary component? In the Sorin's case, the feed-through component for MRI compatibility? Or is it the manufacturing breadth and operational sort of sort of experience that you have that could perhaps help them in terms of their margins? I'm sure it's both but which is it more, if there is a particular reason why the interest level is so high?

I would say, Jason, most importantly, it's going to be technology that is -- I think that -- I am not -- I am fundamentally, as a Company, we must be able to do the manufacturing, engineering and actual manufacturing of both components and full systems and devices for our customers. That is an absolute requirement for us to be successful in the long run. However, the value proposition for that, being just purely an outsourced manufacturer at the system level, I believe, is very suboptimal for Greatbatch. We must, as a Company, to drive value for our customers, develop technologies that make a difference to them in the end clinical markets. We combine that with the manufacturing excellence we have.

In other words, if we can perform at level that rivals their operating and engineering capability, they're going to view us as a very credible and reliable external partner. Not just to manufacture a part but to actually go to to develop products that are more targeted or niche that may not make their thresholds for wanting to invest in that technology. So, we can help them round out their product lines. We can help advance their technologies in areas that may be secondary to them. But because of our reputation operationally, we're going to be afforded the opportunities to do that. And that is precisely kind of the philosophy and the orientation that we want with our customers, is to help them do things that they don't have time to do. But at the level of quality, reliability and performance and innovation that they demand to be successful in their end markets. And that's how we win and that's how we make them win.

Okay. One more question for me and I'll get back in queue. It's kind of back to the less fun part to talk about, which is sort of where the business is now on the earnings that you're producing. Which are obviously lower than we are expecting coming into year and what I'm sure that you were expecting. So, at the lower end of your revenue range and operating margin range, all things being equal, it looks to us like, on a year over year basis in 2009, earnings may be fairly flat. You had talked previously about operating margin expansion over a longer period of time. And you held your operating margin targets this year where they were. Which in light of the fact that the revenue is so weak, it was a silver lining. But I'm wondering if, Tom, if you could either reiterate or talk about your guidance previously of at least 200 basis points of operating margin expansion over, I think you said, three years and where you are with that? And what you perhaps need in terms of revenue growth reacceleration to achieve that? Thank you.

Yes, I will, Jason, say that if you really dig down below, really despite the challenging revenue picture, we came through with a lot of good productivity programs. But they're hard to show because of the revenue decline. And I think with revenue in that 5% to 7% range, we can show the productivity initiatives that we need to to drive 200 basis point a year in productivity improvements. I can tell you that operationally, that we look at driving that operating productivity on an annual basis throughout every piece of the business, whether it's orthopedics, cardia rhythm management, vascular or electrochem. So, the productivity is fundamental to our entire operating plan. If we didn't have that type of philosophy, when we saw the revenue decline year over year in the second half of 2009, we would not be able to hold our operating guidance to what it was. We would have just had too much bleed-down.

So, I still think that having -- we have a business that still needs consolidation. In the areas of the businesses where we've successfully consolidated, we have facilities that have a dramatic amount of capacity available in order to drive business, at much better levels of productivity. and even at the businesses that are consolidated, we have individual group and, I would say, segment product lines productivity plans where they have to deliver, not only for Greatbatch profitability but to deliver to the customers, as well, to incentivize us to get more business.

And I think it's -- that philosophy is not going to change. And that's why it kind of relates my comment that I'm really not satisfied with the financial results for the second or third quarter. And I don't plan on backing off on those productivity goals for 2010. That we're going to continue to have a philosophy and drive that. And I think, with a little bit of revenue growth, we can deliver it.

Thank you very much.

(Operator Instructions) Our next question comes from the line of Stan Mann with Mann Family Investments. You may proceed.

Hi, Tom. I have several questions. One, can you give us some more detail on the status and the profile of the debt, your total debt picture, as of October 2? And then, speak to the pay-down plans? A little confusing. Was the litigation expense, was it paid or is it going be paid? So, give us a little detail on the layout or the structure of your debt and amount current.

Yes, Stan, this is Tom Mazza. As you're aware, we have basically three components of our debt structure. We have a revolving line of credit. Currently, we have about -- a little bit over $100 million acquired under that. We have a $235 million capacity. So, we still have about, I believe it's $128 million worth of availability under our line of credit to be utilized. On top of that, we have a convertible debt of $30 million that matures, that is puttable next year, that we have permission under our revolving line of credit to pay off already and/or to utilize our operating cash flows. And we have about $197 million in convertible debt that matures in 2013.

We have not paid the lawsuit. We are going to appeal the lawsuit. We may need to collateralize it by bonding it, in order to do the appeal process. But we feel we have adequate liquidity to handle that under our line of credit and our available cash. Which our available cash, as of the end of the quarter, was about $30 million.

Okay. How does the debt structure, what's left now, how does that compare to December 30, 2008?

I believe we paid off about $25 million.

Of?

Of the line of credit.

Of the line of credit.

We pay off the line of credit. We would not pay off the convertible debt before it was puttable to us because that is at such favorable rates. So, any excess cash we do we would basically put against our line of credit availability but the balance is still outstanding. We still have availability under it at the $235 million level.

So, the net amount you paid down this year, nine months here --?

$25 million.

$25 million?

Correct.

Okay. So the rest of your cash flow, which has been extensive, has been used for capital projects et cetera.

Exactly.

Okay. In previous calls, Tom Hook has said that he intends to use the majority of cash flow generated to debt pay down. Is that still the basic plan?

Yes, that's correct, Stan.

So, we really are not looking around for any acquisition or et cetera?

We have really no active acquisition strategy right now. We certainly have kept our eyes open. Certain deals have been presented to us. None of them have been interesting to proceed with. I think we did a very good job, in the acquisition strategy a few years ago, to identify the technologies and the product lines we wanted. And really, our emphasis really has been on integration and consolidation. And I still don't see anything, Stan, that we need to have. But if a deal would presently itself to us, we would certainly consider it. With obviously, a lot of sensitivity towards the economics of it and strategically, what it would add to the overall business. But we just literally aren't looking and we haven't seen any presented to us yet.

Okay. About a year ago, you laid out a long-range plan on operating margins, gross profits. Are you still holding that timeline or have you modified it? It's been -- this question has been asked in another format, by a previous questioner. But you had a long-term goal timeline on operating margins, gross margins based on restructuring. How do you visualize it now? I think you had a 2013 goal or 2012, something like that.

Yes, I would say that when we certainly had set out and I originally had articulated the leveraging of the business to consolidate, integrate and drive productivity and profitability, I didn't obviously plan on the global economic recession. But I will say that from a positioning standpoint in the Company, with the factors we control, all of those are still in play. And the expectations are that those internal plans still unfold on the timeline that we had originally put forth, in terms of consolidating, integrating and driving the business.

The offset has been the underlying market growth that kind of is the wind at our back, since that's been kind of negative for 2009. while those productivity programs have still produced the results that we've expected, they haven't washed down into the financial performance because they've been swamped by some of the revenue losses. So, I would say, just to give it a little bit more color that all those internal plans are still in effect and we're still going to roll those out and drive those per the original schedule. I do feel though because of the malaise in some of the underlying markets have presented us challenges on revenue, that has just from a pragmatic standpoint, pushed out our ability in order to deliver against them from the P&L perspective.

Okay. You talked about your markets declining and I'm a little puzzled. I've been on the Zimmer call and some of the orthopedic calls. And basically, they're outlying -- they've outlined growth in their hips, knees, et cetera, not declines. And I'm wondering, is it your customer that's going the other way or is it all inventory correction? Can you kind of get the two pieces of data together? Because if you go on the Zimmer, Stryker, et cetera, the main producers or sellers in the orthopedic marketplace, hips, knees, are up, joints are up. It seems like there's something out of sync here. Now, is it your customer that's down in unit volume selling or is it all inventory correction? So, can you kind of give us a little -- square it up?

Sure. Let me try to -- I'll kind of bifurcate it. 50% of Greatbatch's business links up with the units that are sold by major OEM orthopedic suppliers into the clinical markets.

The joints.

Zimmer, the joints piece, right. The growth rates for those, at the beginning of 2009, were forecasted to be much higher than they are today. Hence, there is this inventory correction, whereby, if you're a supplier to these customers, we've had to absorb some changes in the overall inventory. Which, as you point out, are transitory. They're at either a 2009 effect and will be synchronized with the market going forward in 2010 on the implant side.

Okay. So, you'll be seeing more real market effects in 2010?

That's our -- that's what we --.

Rather than inventory correction.

That's right.

And maybe even a build? Maybe a possible build?

Yes because we won't see the inventory bleedoff, correct. Now, the other 50% of the business, which is instruments and trays, the OEM's don't sell the instruments and trays. They are provided for to hospitals to underpin their procedures. It's a capital item for them. So, what's important ends up being is, while we're selling them to the OEM's, the OEM's are providing those to the hospitals. And if they're not doing a lot of project launches or product launches and it's more maintenance of those instruments and tray kits, then our level of business and projects is diminished. And that's where the effect is for us. And it's just fundamentally different than the actual OEM implant providers.

Okay. So, that's a cutback. Now, you said, you're spending a lot in ortho R&D, which kind of puzzles me, but you have one customer. So, what is that going to do for us? Where's the payout?

Well, we have don't have one customer in orthopedics. We have one implant customer because the acquisition we did was of the DePuy facility in France. So subsequent to that --.

That's a change A ortho.

That's correct. So, subsequent to that, we are now using our resources, engineering and R&D to qualify more customers to help get our plant qualified to be able to make their products as well. So, we must invest in order to go transition that facility from a single customer products line to multi-customer. So, it's -- and we have very good facility capability there. We have an excellent operating team. And as you would expect, we have -- with a competent engineer. We will bid and win business when we're qualified in the facility and we'll start to ship it, so we don't have a single customer.

And on the instruments side of the business, we already have intellectual property protected product lines. And that kind of is the core Greatbatch business model, is we want to invest in those technologies that are innovative. And we want to sell those off under product-specific programs with OEM's. So, we're walking a plan that we walk in many other product lines quite successfully. And so far, it's achieving the technology results that we want. But we haven't pushed those down into the P&L yet because we haven't gotten products qualified yet.

But you're encouraged by the reception, let me ask that, of the new customers?

I'm very encouraged by the reception of new customers? I think as one of the principle reasons we wanted to diversify into orthopedics, is we felt that the operating and engineering capabilities that we had in cardiac rhythm management, neurology and vascular. That if we could implement those same improvements in orthopedics, we could be a credible competitor and pick up business. And that nothing has changed with that. I still think there's a tremendous opportunity here for us to be highly successful, given that skill-set and delivering that operating performance. And I'm encouraged more every day by the levels of improvement we've seen and the level of opportunity that OEM's are willing to engage us in.

All right. My last question, when do you see the adjusted statement simplifying to where our earnings don't have all of these corrective factors, which basically means the restructuring program, a major part of it, comes to an end? 2010, 2011?

You'll see -- obviously, we are finished now with the cardiac rhythm management. We finished with vascular in the middle of this year. We're finishing with electrochem at the end of this year. In orthopedics, we'll finish in 2011. And you'll see, effectively, all of the consolidation/integrations be completed. And we will be -- I'll just call it normal operations, which will equate to minimal to no adjustments in the financials in terms of providing color.

Okay. Thank you.

This concludes today's question-and-answer session. I will now turn the call back over to Marco Benedetti for closing remarks.

Thank you. I would like to remind you that both the audio portion of this call and the slide visuals will be archived on our Website at Greatbatch.com and will be accessible for 30 days. Thanks, everyone for joining us.

This concludes today's presentation. You may now disconnect. Good day.