金百利克拉克 (KMB) 2005 Q2 法說會逐字稿

Welcome to the I-Flow Corporation Second Results Conference Call. [Operator Instructions] As a reminder, this conference is being recorded on Thursday, July 28th, 2005.

It is now my pleasure to turn the call over to Don Earhart, CEO with I-Flow Corporation.

Please go ahead, sir.

Good morning, everyone, and thank you for joining us for I-Flow's Second Quarter and First Half 2005 Results Conference Call.

After our prepared remarks, CFO Jim Talevich and I will be glad to answer your questions.

Without a doubt, the big news for the second quarter was our bottom line performance.

As you know, earlier this year we established a goal of achieving profitability, before stock-based compensation expense, by the fourth quarter of 2005.

At the time, this was considered a particularly difficult goal to achieve because it required us to reduce our spending on marketing and sales while at the same time maintianing our rapid revenue growth, especially in our regional anesthesia business units.

I am pleased to report that we have achieved our fourth quarter profitability goal six months ahead of plan.

Our net loss for the second quarter of $645,000 included stock-based compensation of $944,000.

Without the stock-based compensation expense, we would have achieved a profit of $299,000.

Looking at the results on a reporting basis, the reported second quarter loss of $645,000 represents a 68% reduction from the first quarter loss of more than $2 million.

A significant improvement in a very short period of time.

Along with this encouraging bottom line performance, we reported outstanding top line growth as well.

Second quarter revenue increased 41%, to a record $24,183,000, compared to $17,167,000 for the second quarter of 2004.

Regional anesthesia sales increased 66% over last year's second quarter and more importantly, we're 16% ahead of the first quarter of this year, a healthy increase considering the total number of sales people in the quarter remained relatively constant with the number in the first quarter.

Revenue in the company's oncology infusion services segment, InfuSystem, increased 41% versus the prior year's second quarter.

Our regional anesthesia domestic sales force, which reached full strength at the end of last year, delivered strong year over year and sequential revenue growth again in the second quarter, with the bulk of the start up expenses associated with the hiring and training of our direct sales force and the funding of related investments required to implement our strategic plan now pretty much behind us, selling, general, and administrative expenses remained under control in the second quarter.

By managing our expenses judiciously, we believe that we have achieved an appropriate balance of top-line growth, and bottom-line performance, that will continue to serve us and our shareholders well.

That's why we updated our guidance in this morning's press release.

We currently expect to achieve total revenue growth of more than 40% for 2005 as a whole, as compared to our previous expectation for total revenue growth of approximately 40%.

And, we now expect that I-Flow will be profitable again, excluding stock-based compensation, in the third quarter as well as in the fourth quarter of this year.

We continue to remain committed to the strategy that is working so well for I-Flow.

Our goal in our regional anesthesia business is to establish our proprietary ON-Q family of products as the new best practice in post-surgical pain relief, and ultimately to replace narcotics as the standard of care, because the market for narcotic-free relief of post-surgical pain is a potential $2 billion opportunity in the U.S. alone, and is in still in its infancy and remains under-penetrated.

We believe this is an enormous long-term growth opportunity, as I-Flow redefines recovery following surgery.

Our sales force is rapidly gaining experience and credibility and we continue to assist their efforts through, one, our support of independent, third-party clinical studies, which have repeatedly demonstrated the benefits of ON-Q in an expanding number of applications.

Second, our targeted advertising campaigns in leading surgical journals.

And three, our increasingly successful programs to facilitate insurance reimbursement for our ON-Q products.

I will update you on recent developments in these areas after Jim reviews the results in detail.

Jim?

Thanks, Don.

Before we continue, please note that this conference call will include forward-looking statements.

These statements are based on current expectations, estimates, and projections about our business based, in part, on assumptions made by management.

These statements are not guarantees of future performance and actual results may differ materially.

A more detailed discussion of these risks and uncertainties is contained in this morning's press release and I-Flow Corporation's various filings with the SEC.

The statements made during this call are made only as of today's date, and we undertake no obligation to update these statements.

For the three months ended June 30th, 2005, net revenue increased 41%, to a record $24,183,000 compared to net revenue of $17,167,000 for the second quarter of 2004.

Gross profit rose to 74% of revenue for the second quarter of 2005, compared to 70% for the same period of the prior year.

Operating expenses for the second quarter of 2005 increased by $4,188,000, compared to the prior year quarter, primarily due to the ON-Q sales force expansion during the second half of 2004 and increased marketing expenses, but decreased by $2,282,000 compared to the fourth quarter of 2004 and by $167,000 compared to the first quarter of 2005.

The net loss for this year's first quarter was $645,000, or $0.03 per share.

This compares to a net loss for the second quarter of 2004 of $1,504,000, or $0.07 a share.

The prior-year quarter included a tax benefit of $930,000, equivalent to $0.04 a share, whereas no comparable tax benefit was recorded in the second quarter of 2005, due to the company's accounting for deferred income taxes.

Without the tax benefit of $935,000, the loss in the prior-year quarter would have been $0.12 a share.

Moving to the balance sheet, total cash and investments decreased on a year-to-date basis by $10,451,000, to $33,657,000 as of June 30th, 2005, compared to $44,108,000 as of December 31, 2004.

The decrease included the purchase of $4.5 million of additional electronic infusion pumps by the company's InfuSystem subsidiary, to support its rapidly growing rental business in the oncology infusion services market.

As of June 30th, 2005, I-Flow reported net working capital of $55 million, including cash and equivalents and short-term investments of $33.7 million.

No long-term debt, and shareholder's equity of $73.2 million.

Don?

Thanks, Jim.

In addition to the big news in our financial statements for the second quarter, I have other important developments to share with you.

During the second quarter, I-Flow engaged with Tulane University Health Sciences Center to conduct an animal study to evaluate the anti-microbial benefits of ON-Q.

Animal implants have begun, and we hope to announce the results of this study in the first quarter of 2006.

If this research validates the anti-microbial benefits of local anesthetics when they are delivered continuously into a surgical site, the use of ON-Q may expand beyond today's labeling.

Today's label claim of ``the use of ON-Q significantly reduces the pain and narcotics intake after surgery'' could be expanded to allow ON-Q to be used as a prophylactic against infections.

We also recently announced the signing of four new contracts with insurance companies, including Blue Cross\Blue Shield of North Dakota to provide reimbursement for the use of ON-Q, where appropriate, in ambulatory surgery centers nationwide.

Adding the number of total lives covered by these contracts to lives covered by previous contracts that we have signed, we estimate that ON-Q is now potentially a paid insurance benefit for nearly 20 million people in the United States when they undergo outpatient surgery in an ASC.

Ambulatory surgery centers are the fastest-growing area of our ON-Q franchise.

Third-party billings have increased ten-fold in just the past year.

Payments, too, have increased by a similar amount, which is particularly impressive, since we only recently began pursuing contracts with private insurance companies to pay for the ON-Q.

The contract with Blue Cross\Blue Shield of North Dakota is especially significant because of this insurer's strength, prominence, and visibility.

We expect this news to help accelerate the signing of new contracts with other health plans across the country.

Just a couple of days ago, our InfuSystem subsidiary announced that is had signed ten new managed care contracts that will provide its oncology services as a paid benefit for more than ten million additional lives throughout the country.

InfuSystem is achieving its mission to make treatments for cancer patients as effective and comfortable as possible.

We believe that InfuSystem now has contracts making its services a paid benefit for more than half of the eligible patients in the United States.

These new contracts underscore our optimistic about InfuSystem.

We believe InfuSystem's growth will continue to be driven by the increasing number of office-based oncologists now using electronic ambulatory infusion pumps to provide multiple-day infusions of chemotherapy drugs to patients at home.

So, to sum it up, we are very pleased with our progress so far this year.

Reaching the goal of profitability, after all expenses are taken into account, is beginning to look more and more achievable and will probably happen sooner rather than later.

In closing, I want to thank each and every member of the I-Flow team for their hard work and dedication and for making our outstanding growth possible.

George, we are now ready to take questions.

q-and-a

+++ Operator: [Operator Instructions] Jason Kroll, Roth Capital.

First question, Don -- you know, previously you talked about ON-Q growth being north of 80%, and now we're talking about overall revenue growth being north of 40%.

You know, can you comment a little bit about ON-Q and what we could be thinking about there?

Yeah, we're not giving any guidance at this time, Jason, on the RA side of the business, or the ON-Q business.

You know growing the regional anesthesia is a choice variable.

To a great extent, we can deliver almost any growth, or any rate of growth in RA that we want to, because the opportunity is so large and the market is so young.

We can drive sales by spending more money on additional sales people and marketing programs, but as I said in the prepared remarks, we need to balance the costs of growth against our profitability objectives.

We believe that the operating platform we have today will support very rapid growth in our RA business, far faster than the more than 40% rate of growth we are forecasting for total revenue.

So we have now reached the stage I have been talking about for several years, where we can deliver not only exceptional top line growth but bottom line growth as well.

We think that this is the right formula to build value for our shareholders going forward.

Therefore, we believe we are proving the model we implemented at the beginning of 2002.

That's kind of where we are right now, Jason, in our thinking.

OK, and on the ambulatory surgery center side, you know, you noticed some strong growth there.

What was the participating of ON-Q sales or RA sales, or can you kind of quantify that, that went towards ambulatory surgery centers?

Yeah, just one moment and I'll have Jim give you that number.

Our next question is from--

Just over 5%, Jason.

Just over 5%?

Yeah.

OK.

And then how should we-- final question, and then I'll jump out.

How many-- how should we be thinking about oncology in Q3?

You know, it was a little bit lighter than we were expecting this quarter.

You know, any particular reason there, Don?

I mean, sequentially it was down.

Should we still be expecting-- I think you said in previous calls, you know, north of 30% growth in that business?

Yeah, Jason, what we did in the second quarter is we had to replace the IP billing program, so we actually had to go in and upgrade our billing systems at InfuSystems in Detroit, and in doing so, we lost quite a few days of billing.

So actually what's happened here is, is that you don't really see the full picture in the second quarter because we had a very unusual situation, and that is we took a fairly significant backlog into the third quarter.

So those will be billed in the third quarter and so they don't show up as sales in the second quarter, and the growth, of course, is understated.

Mark Mullikin, Piper Jaffray.

I was wondering if you might comment on the ON-Q trends as far as the number of hospitals you're in at this point, how many you added in the quarter, and just any commentary you can provide on reorder rates of that nature?

We don't comment on any of that at this time, Mark.

Even how many hospitals you're in?

No, I would say we're still in that less than 1,000.

OK.

Again, with the strategy is to go deep and wide, not to knock off more hospitals.

OK, and then now that you're profitable, excluding the stock compensation expense, can you give us any color on where you would expect that operating margin to trend over time?

No, nothing at this time.

Again, this is a very affluent type of a business and it's still very unstable in terms of being able to predict, so all we can say is we're very confident we can continue in the third and fourth quarter to deliver numbers that, after the compensation expense, are positive.

But it's still too early, Mark, for us to make any projections beyond that.

You know, we're going into the summer quarter, don't forget, which has always been a soft quarter for us, but even with that, we're willing to make the projections that we've stated.

OK.

And then on the ON-Q sales force, can you tell us what the involuntary turnover number was in the quarter, or percentage?

I think you've said that in the past.

No, we don't give those percentages, but I will say this, is that the number of people in the sales organization at the end of the second quarter is almost exactly the same number as it was at the end of the first quarter and is very similar to the number at the end of last year, which is we finished our hiring program.

OK.

In the past, you've said you, you know, you think you're going to have turnover of 10%, sort of involuntary, just in terms of attrition and what not.

But, also, recently you said that you were maybe going to not be as stringent with some of your requirements, quotas, and what not.

Has any of that changed?

Are you still, you know, in that 10% neighborhood or below that, as far as attrition, involuntary?

First of all, the only thing I remember ever saying is that we budgeted for approximately 10% turnover this year.

I don't ever remember saying any of the other things you said.

We don't give that kind of data.

Well, are you in that 10% neighborhood?

Again, I don't give that kind of information.

All I can tell you is what we budgeted, and that's all I could say.

OK.

Are you within budget, then?

We don't give that kind of information, Mark.

OK, thank you.

You know, take-- take a look at the growth and then you tell me if we're OK.

Well, that doesn't-- I mean, there's a profitability issue obviously associated with turnover, so I guess that's what I'm trying to gauge.

Well, yeah, whatever is happening, Mark, it looks like it's OK.

OK, thank you.

You're welcome.

Ryan Rauch, Jefferies and Company.

First, I mean, through our clinical feedback, we have yet to hear or talk to any physician that has even been approached by a Zimmer rep with their ON-Q-like product.

Is that-- I mean, are we sort of hearing the same thing you are?

I mean, have any of your sales people seen the Zimmer product in the field?

No, we've not seen it sold.

We did get a sample the other day from a doctor, but I think he was actually evaluating the product as opposed to buying it, but we have not seen any sales effort with the Zimmer product as of today.

OK, and then where do you stand with CMS as far as potentially removing the discretionary label that they currently hold for the ON-Q?

Are you still in discussions, or have you decided to move forward and file for a national coverage decision?

No, because the discussions continue to progress, just like we had hoped, and it has not stopped us from continuing our billing of the [D-Mercs] and going through the appeal process there and we expect to get paid in the near future, so it's been very positive so far.

OK, perfect.

And then Jim, would you care to quantify what revenue was last in the quarter due to the billing systems upgrade at InfuSystems?

We don't have that number.

I mean, we have the number, Ryan, but we don't-- we're not going to talk about it.

But let's say it's a pretty important number.

OK.

And then maybe finally on the IV therapy side, I mean, there was some concern last quarter that [Vibron] took a large order at the end of the quarter.

Clearly they're doing a good job, based on your IV therapy numbers.

What's going on out there, exactly?

Why are they taking share from Cardinal and Baxter on the infusion pump side?

You're talking about the disposable pump side.

Their orders in the second quarter continued to be similar to what they did in the first.

Any drop off in orders would have come from our other distributors, but we expect those to come back.

So the Vibron orders were basically flat with first quarter, but they are up significantly versus last year.

And the answer to your question is yeah, we believe they are taking share from Baxter and from Cardinal, but I think more importantly, they're probably taking share away from electronic pumps that are used in home care, and against gravity that used to be used in home care.

Where, in the past, when nursing visits were actually being paid for by the government and by insurance companies, Medicare and insurance companies, then it was OK to put products in the home that required nursing to come in on a regular basis to in-service.

Therefore, you could put gravity in the home, which takes a lot of in-servicing, or you could put electronics in the home, which takes a lot of nursing visits.

What they found, though, with the pulling of those reimbursements, where nurses are no longer reimbursed to go out to the home, it's very much important to move to products like ours, which requires little or no involvement by the technician.

We really think that's what's driving this business, is we're taking share away from the gravity business and to some extent, the electronics business.

Bill Plovanik, First Albany Capital.

Just a couple of questions.

I think you've given us some numbers, ballpark, the number of hospital and ASC reps, do you have that number off hand?

Today we don't separate that, but it's approximately 150 in total.

OK, is the ASC growing a little faster, do you think?

Have you been adding there?

Yes.

And then what were your U.S. and O U.S. revenues.

Just a moment, we'll get Jim to give you that.

What was the question, Bill?

The U.S. and the O U.S. revenues?\

Outside U.S.

Oh, oh, total international revenues--

And another Jim question will be, just split out the sales and marketing versus the G&A in the quarter.

It was- total international was $3.3 million, Bill.

OK, I can back the rest out from there.

And then you said sales and marketing - what was your question specifically there?

The split between sales and marketing and G&A.

G&A in second quarter was $4.9 million.

$4.9 million, OK.

And then what was the cash flow from operations in the quarter?

I don't have that number for you.

Or-- you don't have capex, I take it?

Yeah, it was roughly $4.5 million, a little more than that, the $4.5 million, as you recall from the press release, was just the Infu piece.

In the quarter or in the half of the year?

I'm sorry, half the year - it was about half that, about equally spread between Q1 and Q2.

OK.

And then the only other-- what I'm trying to figure out is, your loss for the quarter was about $650,000, including the stock-based expense, but your cash flow was down about $5 million sequentially, your cash and equivalents.

I was just wondering if you could kind of help me balance that out?

It's balance sheet changes, Bill.

Basically in the quarter, well, our- I mean, you've already got the numbers in the previous quarter.

Our accounts receivable was 18.5 at the end of June and it was 16.8 at the end of the March.

Similarly, inventories were 11.8 at the end of June, versus 9.7 at the end of March.

Was the A/R impacted by the InfuSystems at all?

No, it's really just volume-related, so we're really just investing in working capital, because of the growth of the business .

OK.

All right, great.

Thanks a lot.

Sara Michelmore, SG Cowen.

Don, just to your ``deep and wide'' point on the ON-Q, can you just talk about if there were any-- you know, just qualitative changes in the types of procedures that you think ON-Q is being used, and I know you guys had some new catheter lines you put out recently and just wondering if there's been any change in the mix there?

Yes, the answer to your question is ``yes.'' Every day, we seem to find another new use for the device.

So, the need for our sales people to go out and find new hospitals is not- is really not that big, because they can find so many things to do with their existing customers, and since they already have relationships, that's why the ``deep and wide'' works.

But one of the things that we've just introduced, of course, is the tunnel ling procedure, in which we now sell a family of tuneless, tunneling being that we can now place a catheter away from the surgical site, right on to the nerve bundle that feeds the area where the surgeons cut, so you don't have the catheter actually in the surgical site, you have it lying parallel, or adjacent to that site, covering the nerve endings that would feed and cause the pain.

We're getting absolute superb results, especially from the larger incisions, with that type of technique, and we eliminate or pretty much eliminate, any chance of the catheter ever causing an infection, even though we believe our catheter doesn't cause infections.

But it reduces significantly the chance of an infection at that surgical site.

So we're very excited about that.

In the second half of this year, there are numerous products that will be introduced.

We are making continuing improvements to our product line, but we have a couple of major that we expect to launch before the end of the year, which we have not dialed in to any of our forecasts.

OK, that's--

We're pretty excited about that, Sarah.

And just in terms of specifics on the types of procedures, I know that may be a hard number for you to come up with, but any specific, you know, hot areas for you right now, or areas that--

I think- [crosstalk] because we've been hiring some people from [Chifon], who in their previous life had worked for Chifon, we're beginning to see some spine opportunities, and cardiac continues to explode, especially with the tunneling.

You know, the tunneling has made the cardio all of the sudden jump again, where that's always been a target, but now it's even bigger.

So I think the spine surgery is probably the most exciting thing that's new.

OK, that's great, and it sounds like, you know, I know that you guys have made a good start with the third-party and the reimbursement for the outpatient setting and it seems like you guys have gotten some momentum recently, so if you could just talk about how you're doing there, and how the pipeline looks and what your progress is expected to be over the next eight to 12 months?

Well, we're very excited about the outpatient program, the ambulatory surgery center program.

It's such a huge opportunity for us that's been on top and in fact, we are hiring more people on that side.

However, it doesn't really affect our overall 250.

In other words, what we're doing is we're taking people who used to be on the sales associate side and we're moving those people over to the ambulatory surgery center side to support that effort.

We're doing that because that business is really starting to go forward.

It's pretty hard for a surgeon or a surgery center to deny using the device when it doesn't cost them anything and when the patient is only forced to pay the co-pay.

So it becomes a very economical, good decision and don't forget, the surgeon in many cases can bill for the placement of the catheter.

So yeah, we're very excited about that part of the business and we continue to invest over there, because we believe that that will continue to grow at a very fast rate.

Mike Davidoff, Sidoti.

Can you talk a little bit more specifically about the sequential decrease in our selling and marketing expenses and Don, you kind of commented on pulling back some resources there.

Just-- can you give us some more color on that?

Well, I think the biggest change there, Mike, is the fact that we're not hiring.

You know, our big expenses last year was the hiring of 80 people or so - in fact, it was more than 80 people, when you count the sales associates and nurses.

So if you're not doing the hiring, you're not doing the training, and you're paying all the recruiter bills, it makes a huge difference.

And any other programs on the marketing side, for example, that don't give us a short-term hit, we're looking at those very, very carefully to make sure that we don't spend money that's not going to give us an immediate return.

You know, the other thing is, Mike, as you and I have discussed in the past, there are no commission guarantees, so when a sales rep hits certain numbers, if they miss the first, you know, guideline, they don't make any money other than salary, and that's the way our commission plan is designed, so as you grow faster in your territory, the more money you make.

If you grow less fast, you make less money.

So that commission plan protects us at all times against anybody who's not growing their territory.

So we've had tremendous savings from no longer any hiring, no longer any recruiter fees, no longer the training we had to go through last year, the lost productivity associated with that, and of course we've saved on commissions, because of the way the plan is written, for those who don't reach certain levels.

OK.

Don, have you see any changes, faster or taking a little more time-- in the past, you said a new sales rep takes about five or six months to get to break-even.

Is that still what you're seeing?

I would say we're probably seeing break-even in the six to nine months with the new people, and the reason for that is, Mike, is very simple -- they picked up territories from existing reps where we either split in half or took a fourth away or whatever from an existing rep and gave that to a new rep.

This time around, they basically got territories with zero sales, so they were starting from absolute zero in most of these territories, which takes longer than if we'd given them territories with, let's say, a base of $10,000 a month.

If they'd had a base, it makes it easier for you, then, to build on the base.

If you've got zero in your territory, it takes a little bit longer.

But again, the second quarter, we had approximately the same percentage of people make quota in the second quarter that made it in the first, and right on budget - right around 30% of our people made quota in the second quarter, which is exactly where we want to be.

OK, great.

Just two more questions.

If you guys did meet your expectations for profitability in the third quarter, do you think you'd be free cash flow break-even or positive and if not, when do you project you'll break even?

Again, we don't give those kind of numbers.

Don't forget that a lot of our cash is being used to invest in that oncology business, so you know, if they need more pumps, they're going to get more pumps.

OK.

And it's a lot better to go ahead and pay cash for the [dang blang] things that it is to lease them.

So it is fair to say, I mean, your cash, six months from now, do you think you'll be right around the same rate or do you expect to burn a little bit more?

Again, I don't forecast that, but let's say we continue to make good progress towards profitability, I would assume that our cash needs will be less, but again, we're investing in this business.

We have the cash to do it, so we are doing that, but we're doing it more judiciously than we did in the past, because we're now up to what we feel is the right level on the sales force side, we've got critical mass, and so now we're taking advantage of that.

OK.

And last question, I don't know if this is for Jim or you, Don, but can you walk us through again the stock-based compensation expense and just how we should expect that to flow through, and I know part of that has to do with timing of how you're amortizing that, just where you are today with that?

I'm not sure exactly what you're asking, Mike, but the amount of stock-based compensation we had this quarter, I mean, we really haven't forecasted that for the rest of the year, but you can probably expect that to be more or less typical--

Typical--

I don't know what your question is - maybe you can narrow it down for me?

Is- that's part of my question- so, for the next couple of quarters, is that a- obviously, depending on sales growth, is that-- that number is based on this quarter, right, it's not like an amortized number, based on expectations for the year?

Well, it's some of each.

The-- of the roughly $1 million of stock-based compensation expense, you know, maybe 40% of that is an accrual for acceleration- acceleration of the stock rights, as we've discussed in the past.

OK.

Remember, Mike, that those in the sales force who hit quota for the year will actually get immediate vesting of restricted shares, so what Jim is saying is that a significant portion of that which we reported in the second quarter is accrual towards that expectation.

OK, that's what I was asking.

Yeah, and we think that number is going to be similar in the third and fourth quarter.

[Alex Arrow] with Lazard Capital Markets.

--how you are with hospitals that are customers that are spending more than $1 million a year?

Again, you got partially cut off.

Could you say that again?

I was just wondering if you have any hospital customers that are spending near $1 million a year, or that expect to have upwards of $1 million?

We don't have any that we would say is $1 million right now, but we are getting very close, and by the end of the year, we might see that.

OK, great.

That's all I was wondering about.

Thank you.

OK.

[Operator Instructions] David Turkaly, W.R. Hambrecht.

Could you just remind us, the stock comp expense, is that in G&A, and how long have you been showing that?

Part of it is in G&A and part of it is in selling & marketing, so it's all in the second quarter number you're looking at on the press release.

And was it there in the first quarter?

Same place.

And as you look at your gross margin, it's been improving over the last few years.

Based on your 40% or 40%-plus revenue growth this year, what should we be looking at, you know, back half of this year, maybe next year -- can we still expect, you know, maybe a couple hundred basis points of improvement or is 74 a good target to be at?

I think the best way to answer that, David, is if you take a look at the growth of the three businesses, the growth of RA is still significantly greater than the other two.

With RA-- I should say, RA margins somewhere between 85% and 90%, and the oncology business somewhere around 70%, and those being the two fastest-growers by far, I think you could expect the margins to continue to improve.

Great, and--

Does that make any sense?

Certainly, yes, that makes sense.

And can you remind us where you stand on the buyback?

Do you have one in place?

Have you bought any shares back?

We have one in place, and again, we don't comment on what we've actually bought or not bought.

Can you remind us of the details, of what it covers?

At this time, we have not bought any shares back.

Jim Talevich said we can say that, so we have not bought any shares back at this time.

Again, we don't give you the strike price; we don't want anybody to know what that is--

So, that's fair-- is $1 million?

I can't remember how much it covers?

How much can you buy back?

It's million shares.

A million shares, that's what I meant.

Yeah, I'm sorry.

The price, we don't want to give you; someone may take advantage of that.

Hopefully it's $15.80.

All right, thanks a lot.

[John Lott], U.S. Bank.

Yeah, I was just wondering if you could provide us with a little more color on your [passive] standing on the labels included in inspection claims?

Do you have any human studies going on right now, and do you plan any?

OK, are you aware of the animal study that we have going on at Tulane University?

Well, you referenced it on the call, but I'm just wondering what the hurdle is going to be with the agency?

Well, you know, John, we're not sure we can get an actual claim for the label, but we have a three-pronged program to hopefully convince the FDA at some point that we have something real here.

We know from our clinical studies that we have experienced significantly lower infection rates than what would be expected if you looked at the national averages.

So we have that data, which we reference as a retrospective study.

We also have a clinical study done last year that shows that when our product is used, you actually see significant increases in oxygen levels at the surgical sites.

Now we know from previous or other studies that increased oxygen at the surgical site usually means faster healing, therefore lower infection.

So we already have that one in our arsenal.

So the third study is this animal study, in which we're actually infecting the animal with staph infections, using our pump them in the surgical wound to see if we can change the number of bugs, hopefully decrease them to zero, but even if we can get a significant decrease in the infection in those surgical sites where we have the pump delivering a local anesthetic, we think that will be very important.

So we have that.

The fourth leg of the stool has not been finalized, but we are considering a human study in colo-rectal.

The reason we picked colo-rectal surgeries is because they are by far and away the dirtiest and have the highest level of infection rate and therefore, in order to get a significant number, we wouldn't have to have as large of an [end].

Infection rates are so small that you might end up with an end of 3,000 patients.

Well, in colo-rectal, we think we can do it with maybe 300 or 400 patients, but again, we are evaluating that as we speak.

What does the Tulane collaboration involve?

Are they bringing in anti-infectives to the table?

No, what they're doing is, they're doing the incisions, they are introducing the bug into those incisions, and they're placing our device, filled with [Rupivicane] to see if the Rupivicane, being delivered over three days, bathing that surgical site, reduces the chance of an infection.

That's what we're looking for.

And again, if we can prove that with animals, we do know that a lot of surgeons will give that a lot of weight, that if we can prove it in animals, and these animals are pigs, which are similar to humans, that that will go a long ways.

If we are able to get the FDA to take that data along with the other things I mentioned, and give us a claim, that we do help reduce the chance of infections, you and I both know that's a home run at the highest level.

I guess I'm just kind of wondering why don't you put more priority on a human study, because it seems that would change the equation completely, from a missionary sale to a big demand pull?

Well, the reason we haven't- we haven't done that is because we first want to see what this animal study, get some preliminary information from the study, before we spend the big dollars that are associated with doing a human study.

OK.

Now, to do a human study like the one we're dong for animals, we couldn't find any volunteers who would allow us to cut them and introduce staph infections.

And how big of a study in colo-rectal would you need to do?

We think we'd need to do somewhere between 300 and 400 people.

Again, you never know, because as you start the process, if you don't get enough significance, you keep adding people to the thing.

But we think we can get away with somewhere between 300 and 400 people, and you know, you're talking maybe $1,000 per person.

What's the infection rate in the literature?

On colo-rectal, it's about 10%.

Ours is around 4% to 4.5% in those clinical studies where we've done colo-rectal, so we have an infection rate, based on clinical studies, of about half, so we're pretty- we're pretty sure that if we start this study that the results will be in our favor.

OK, thank you very much.

You're welcome.

[Bill Miller], Artwell, Incorporated.

Can you give us a timetable, when you might be willing to take the 150 salesmen to another level?

Will you also give us some sense of how many of the support people are now being switched to a more active role, from the support level, and you mentioned that as far as the ambulatory surgical centers.

Yeah, we're-- again, Bill, I don't want to comment on when we'd start adding sales people, because again, we are driving for profitability and like I said earlier, it's a choice variable, so we'll evaluate that every day.

We are looking at moving approximately 10 people from the support side into the ambulatory surgery center side, which would increase that group to somewhere around 35.

If we are successful in getting some of the contracted surgical centers, some of the large ones, under contract this year, and we're working diligently to try and do that, if we are successful, then we'll probably move another group over.

In fact, if we are successful in doing that, we may add five or 10 more people to the number.

So that's kind of our thinking today, but right now, we're going to move probably around 10 people into that operation, because of its growth.

That sounds terrific, Don.

Can you give us some sense of how fast you expect that area to grow, either in dollar terms or in percentages, or-- well, go ahead.

We'll start there.

Well, we know that about half the surgeries of the 15 million in our target are done outpatient.

We have a terrific opportunity to go after the hospitals that are now using our product and provide this program to their outpatient side.

Since the product is already in the hospital, it's already known to the doctors, it's already gone through materials and all the evaluation committees, we think that that is a huge opportunity and we are targeting that.

So, for me to sit here and tell you how fast that's going to grow, it's very difficult.

We've said we've grown it ten-fold in the last six months or so, we expect that to continue and probably get even better.

I've got a note here from Jim Talevich telling me to say at least as fast as the total ON-Q, but I think that's probably a little on the low side.

Ten-fold, and is now only going to grow as fast as the rest, we're in trouble.

Yeah, I think that's a little on the low side.

Well, Jim is always conservative, as we know.

Yeah, he is.

He keeps me out of trouble, Bill.

I'm sorry to hear that.

Can you also give us any indication on the reimbursement end of that, and obviously you know, you must have some better feeling, after getting the North Dakota situation ironed out, whether we're going to get a more widespread and how fast you expect other Blue Cross\Blue Shields to take it up?

We're very excited about that part.

Our effort there, of course, includes five full-time people who do nothing but go for contracts.

They do both oncology contracts and ON-Q contracts, but the emphasis is about 80% ON-Q and 20% oncology now, because we have most of the oncology contracts.

So that effort is still very large and we're very encouraged, as more and more insurance companies are changing their policies, not necessarily a contract, but they're changing their policies, to recognize this as a legitimate way to treat the pain.

You know, the Blue Cross of Texas is paying us now because of the policy change, but we don't yet have a contract.

But that's just fine.

As long as they're paying us without us going through numerous appeals, that's great, and more and more insurance companies are doing that.

And we expect in time we'll ultimately convert them to contracts.

How many [D Mercs] do you have now, Don?

Well, there's four D Mercs out there and they-- we continue to submit Medicare-- Medicare patients to those D Mercs and we are going through the same appeal process we went through in the past, and we expect to get the same ruling from a judge that we got in the past, and ultimately those will get paid.

Do you have a timeframe that you can give us on that, Don?

No.

CMS has asked us to do this off-record with them, not to file a formal request, at least hold off for about six months, while they evaluate whether or not they could take care of the problem without us having to go for national coverage.

So, we're giving them that opportunity.

It doesn't stop us from going through the appeal process and getting paid in the end anyway.

Now remember, a national coverage decision that went against us would be an all-or-nothing.

This way, it's good both ways.

Yeah.

So you can continue to go on a sell commission, as you're doing now, rather than try to put pressure on for national coverage, or is there some point when you will try to go for the national coverage, because it's so obvious that you should get it?

Yeah, hopefully after the animal study.

After the animal study.

Yeah, I'm kidding here a little bit, Bill.

You know, if at any time the procedure or the process with CMS got to be too slow, or wasn't in our favor, well then we would make a different decision.

But I think the animal study is probably a good benchmark.

OK.

The other sort of lingering issue in the back of my mind, could you give us a sense of the momentum from April, May, to June, and now you have the results, almost have the results for July, how the sales force or the actual percentages of the last quarter were divided in those three months?

Well, I think the best way to look at first quarter versus second quarter is the 16% growth.

Yeah, I got that part.

Overall-- and of course, if you remember from the earlier question, about 5% of our revenue in the second quarter was ambulatory surgery centers, so that kind of gives you that number.

Again, I don't comment on quarters going forward.

We expect the third quarter to be similar to third quarter in the past, and you know, third quarter is always a slow quarter for us, not a bad quarter, not saying a bad quarter, I'm just saying a little bit slower, because we run into vacations.

Yeah.

[crosstalk]

-give any sense of how it billed in the quarter?

Your sales force got more productive, they are now no longer quite the rookies they were before, at the end of the year.

Can you help us out on that migration?

Well, since the number of people in the first quarter was almost identical to the number of people in the second, and the growth was 16%, on an annualized basis, that isn't all bad.

No, it's terrific.

Yeah, I would say that they're starting to get their legs under them, but again, like I said earlier in the conference call, it's taking a little bit longer for this group only because they got territories that were truly naked.

There wasn't anything there to build on.

The rest of our sales force that had been here longer kept the good stuff.

Sure, that's natural.

Can you talk about any reasons or cities or anything else where you've not previously had, or you've had zero and are now getting some traction?

Well, our biggest city of all, believe it or not, is Indianapolis.

We have unbelievable sales in Indianapolis.

Indianapolis will be more than a $1 million city for us.

It'll be huge.

It could be a $2 million city for us this year.

And why has that happened, Don, and how can you transfer that phenomena to some place else?

We've got a couple of outstanding territory managers there who have gone after the product and sell our more expensive products there.

They've gone after the continuous nerve block side of the business, as well as the wound site side, and they're very good at selling the larger models, the more expensive models, and they go after the bigger surgeries, which is the key to making your quota quickly.

And by the way, we probably have two people in Indianapolis who might do $1 million a this year.

That's really terrific.

Another great city for us is Houston.

Another one is Dallas.

So we've got quite a few pockets around the country that are really starting to come.

When does New York and Boston kind of take over?

You know, I wish I knew the answer to that question, Bill, but we have got some new people now who just came on board, a couple of them came out of [Kifon], we have a new regional manager up there, so we're pretty excited about what's going to happen up there.

Do they have Rolodexes?

Yeah, they've got Rolodexes.

In fact, one of the gentlemen was in for training this week and I got a chance to talk to him, the guy that is going to take over Boston, and I told him he better be a dang gum miracle worker, because we've tried Boston several times and have not done a good job, and this guy is very impressive, so I think we're going to be OK.

We have a follow-up question from the line of Bill Plovanik.

Just on the- what percentage of your gross billings are being paid for on the ASC side?

I think last quarter you said that number was about 35%?

Yeah, we've not backed of the 35, Bill, and again, we expect that to improve in time as we continue to get more and more insurance companies to recognize this therapy at legit.

And as you can see from our announcement, we are succeeding in that area.

And has the ASP changed at all?

No.

It's as solid as a rock.

And then secondly, are you still sticking with the hard and fast rule of basically firing these guys if they're not meeting quota after-- or meeting whatever objective it was after six months?

Absolutely, and you can-- and if you want to [inaudible] the ex-reps I'm sure they'll verify that if you don't perform, you're out of here.

OK, and then lastly, you mentioned that 5% of the revenues were ASC.

That's 5% of the RA business, correct?

Yes.

Mr. Earhart, there are no further questions at this time.

I will turn the conference call back to you.

Please continue with your presentation or closing remarks.

Thanks, George.

We are excited about our performance for the first half of 2005 and we expect the second half to be even better.

Our revenue is growing rapidly in both regional anesthesia and oncology and our drive toward profitability is ahead of schedule.

We look forward to reporting to you on our progress in three months.

Thank you very much for your continued support.

With that, we end.

[Operator Instructions]