Merit Medical Systems Inc (MMSI) 2011 Q2 法說會逐字稿

Good afternoon, ladies and gentlemen, thank you for standing by. Welcome to Merit Medical's Second Quarter 2011 Earnings Conference Call. (Operator instructions.)

At this time, I'd like to turn the conference over to Fred Lampropoulos, Chairman and CEO. Please go ahead, sir.

Good afternoon, ladies and gentlemen, and thank you for joining us. We're broadcasting from Salt Lake City on a beautiful summer day. We appreciate your time. We would like to make you aware that in the room today we have members of Merit's general staff, and we also have a special guest with us today, and that is Leon Lamb, who is the Managing Director of our operations in China. And Leon, we're delighted to have you here.

Before we go any further, we'll ask Rashelle Perry, Merit's Chief Legal Officer, to read our lengthy and all-encompassing comments. So please, if you will?

Thank you, Fred.

In the course of our discussion today, reference may be made to projections, anticipated events, or other information which is not purely historical. Please be aware that statements made in this call which are not purely historical may be considered forward-looking statements. We caution you that all forward-looking statements involve risks, unanticipated events, uncertainties, and other factors that could cause our actual results to differ materially from those anticipated in such statements. Many of these risks, events, uncertainties and other factors are discussed in our Annual Report on Form 10-K, and other reports and filings with the Securities and Exchange Commission, which are also available on our website. To the extent any forward-looking statements are made in this call, such statements are made only as of today's date, and we do not assume any obligation to update any such statements.

Although Merit's financial statements are prepared in accordance with accounting principles which are generally accepted in the United States, Merit's management believes that certain non-GAAP financial measures provide investors with useful information regarding the underlying business trends and performance of Merit's ongoing operations, and can be useful for period-over-period comparisons of such operations. The table included in our quarterly earnings release, which will be discussed on this call, sets forth supplemental financial data and corresponding reconciliations to GAAP financial statements. Investors should consider these non-GAAP measures in addition to, not as a substitute for, financial reporting measures prepared in accordance with GAAP. These non-GAAP financial measures exclude some, but not all items that affect net income. Additionally, these calculations may not be comparable with similarly titled measures of other companies.

Rashelle, could we ask you to read that again? I'm just having fun with you. Thank you very much, Rashelle. That's a lot of reading, so thank you very much.

Well, ladies and gentlemen, we are again, as I mentioned, delighted to be with you, and we're delighted to share with you our report. As you can see, revenues for the quarter were up 22%. Core business was up 12%. Income from operations was up 24%. Gross margins were up 330 basis points for the quarter. I should note that, sequentially, quarter-to-quarter from the first quarter, the margins increased by 70 basis points.

Also, just as a point of interest, as you're all aware, Merit completed an equity offering, and also had some stock options that were exercised. If we were to add those in, it would have added another penny a share. Better yet, taken those shares out, the performance would have been even higher, and that is $0.22 non-GAAP and 19 on the other basis. So the shares are there, but nevertheless, I think it -- I think speaks to the strength of the business.

Now, how did all of this come about, and where is the strength in the business? If we take a look at the business, we're seeing extraordinary strength in our international markets. And it's not just in China. We're seeing, of course, tremendous growth in China. I believe that we were up about 60% quarter-over-quarter from last year. But more importantly, our worldwide dealers -- so I'm talking about Central, South America, Australia -- were up, I think, to the tune of about 35% or so. If we take a look at our direct sales in Europe, we're up in excess of 30%. And then we take a look at some of our specialty companies, such as our sensor systems, which for the first six months are up 48.6%.

So if we take a look at our business, we see a lot of these areas of strength. And I'd point out in my comments that, for many, many years, Merit has laid out the infrastructure. We've invested in Europe. We've invested in China. And we've invested in regulatory staffs to gain approval so that we could sell products in Central and South America and other areas. And these investments are clearly paying off. I don't think it's a secret to anybody that the US markets have slowed down. Despite that, for the quarter, our sales were up only 5% domestically.

However, one of the things that you need to think about is, last year at our second quarter, we saw the largest single increase for that quarter in core sales than we did for any period of the year. And that was because of the business that we had picked up through some difficulties from a competitor. Some of you recall, in the Kit business, which also drove the Pack business, that we were able to have a pretty substantial improvement in the second quarter. So when we compare it to that and then look at the first six months, so if we look at the first six months on our US direct, we're still up almost 10%. So it was a little slower there, but these other parts of our business have been doing very, very well.

And it's, I think, a testament to diversification of both our product lines and our geographic, as well as our technology mix. So I'm very pleased with those efforts that we've made and the things that we've invested in for years when we moved sensor systems here, when we invested in China. So those things, I think, are paying off at this point.

Other things that we'll see in the future, for instance, as I mentioned, is our Hong Kong office, which our inventory is present. Leon's here with our sales force from -- and they're finishing their training. We'll be back in -- I think, Leon, our office opens up next week, or the following week, and then we're ready to go in Hong Kong. And that will serve as a base in the future for our operations in Southeast Asia.

So we're very excited about what that means. We'll have better training. We'll have more access in an area that we think and we see in our order histories, a business coming out of places like Vietnam, the increases we're seeing down in Australia and those area. We will have a center point in which we can focus our efforts in the future. We're also starting and working diligently on our registration processes in Brazil, and that will be an area that, as we go down the road, will have the same types of response that we're seeing in China as we have more control and more influence over the distribution process.

During the quarter, we also received a couple of new 510(k)s. They're on the public record. I'm not going to go into a lot of detail, but we have received recently some new regulatory approval. We have a couple more that we expect in the very near future from the FDA. We've also received several new licenses from the registration efforts in China. We expect several more between now and the end of the year. So the business is hitting on all cylinders.

So I'd like to point out the efforts and the opportunities that we've seen in EndoTek. As you know, EndoTek has been a struggle for us, and it's been a drag. However, that drag is starting to ease. We've introduced the Big 60, which is an inflation system. And you, of course, all understand that inflation devices are part of Merit's real strength, and we're excited about the effect that that inflation device is having on opening the door to our sales force. And so the sales for our EndoTek division for the first six months are up 35%. For the quarter, they were up 48.7%.

So that's exciting to see these businesses that have struggled a little bit, and I think it's a testament to the types of efforts we make and the fact that we simply don't give up. We believe, as I've said many, many times, that this division, over time, will be $100 million, and we'll work until we accomplish that. And it's a lot of work, and it'll take some time, but that's where we're headed.

So I think that gives you an overview of the sales effort. It talks -- I think we've addressed the margins, which I'm very pleased with. We have a little higher tax rate, at least in this quarter, and I'll have Greg Barnett kind of go through that with you and where we think it'll settle for the year. We've talked about the divisions and the parts that are doing well. Everything is essentially above water, but a little bit slower in the US, and I think that's -- in fact, I had someone say to me the other day when they were looking at the performance at other companies that, if we take a look at our first six months, we're doing substantially better than anybody else. So you guys have the numbers and cover the various companies, and you'll have those opportunities to compare that.

But again, revenues, overall growth in the business, gross margin improvement, profit improvement, and a very, very clean balance sheet. And the business has a number of new projects.

And one last comment before I turn it over to Kent. We've signed in the last month two or three technology deals that will have an extraordinary impact on the business, going forward. These are situations in which Merit has acquired various technology and patents or rights, and they will lead to products and opportunities in the not-too-distant future that are going to have an extraordinary affect on our business positively.

So we're not here to talk about those today, but I will commit that, as we move out through the years and we get all those plans finalized, we'll come and discuss those with you. I will say that they are the most extraordinary deals that we've ever done with the most opportunity, moving along that line of primary use products and products that have an impact on people's lives and on this business. So we're very excited about those opportunities.

That being said, Kent, I'll turn some time over to you for comment, and then to Greg Barnett to talk about our taxes.

Thank you, Fred.

I'd like to mention the breadth of our growth is across almost all product lines. It's particularly strong in some of the standalone products where we have new things coming in. I'll mention a few by name, like the Laureate, and for the Basix inflation device, for example, has been growing very strong. So has the MAK.

So the other nice thing about that is that's contributing to our mix improvement for gross margin. So it's part of that improvement in gross margins comes from some of the fastest growing products are contributing most to revenue growth [or] higher margin. So we see that it's still broad-based, that even though the comparables were a little more difficult in the second quarter than in the first quarter, particularly the June month, we still have a very strong momentum across all our product lines. And some of the fastest growing ones are helping in the gross margin area.

So it's just nice to see that leverage starting to come through the financial statement. And even though we have a lot of investments -- and one I need to point out is that that trial for -- the HiQuality trial for the [HCC] liver drug combination is beginning to heat up for us and cause the R&D costs to rise. But we believe that things are going well, and that that'll pay back in the future.

Yes. Kent, thank you very much. Greg, would you just comment briefly about the tax rate for the quarter and just your overall view for the year?

Yes. So our tax rate was up a little from the first quarter, about 3.1%. Some of that relates to several factors, one being our deferred comp, which can affect us either positive or negatively, where it kind of swung the other way on us, but it's not deductible for tax purposes. So -- as well as we had a FIN 48 benefit we were able to recognize in the first quarter that we did not have in this quarter, as well as some mix between our US operations and our foreign operations. Our US operation's a little higher in profit, and our tax is a little higher rate.

We still feel that we're going to be at about a 32% rate for the year as we'll pick up our FIN 48 benefit in the third quarter that we'll see. And so we're -- still believe it'll be around a 32% rate for the year.

Okay, Greg, thank you very much.

So ladies and gentlemen, those are the general highlights. A little bit higher expense on the SG&A line that we explain with some trade shows and some of the things that are associated with training, a little bit higher expense on that R&D line that Kent -- but I'm not apologetic at all about the success that we've had, and that is to see 12% core growth, which by the way was lower than that first quarter. But if we take a look at the year, we're at 15% core growth through the first six months. That's extraordinary. That's extraordinary.

And so, all in all, I'm pleased with the business. We have a lot of new products and a lot of -- just a lot of momentum in the business, and particularly overseas. One of the big highlights, aside from those divisions, is the European direct sales. Think about all that's going on in Europe.

And by the way, we should remember a couple of other things during this quarter. Our sales in Japan are about flat. Last year they were up dramatically. And so, despite that, they were still above water, but that affected -- we would have done even better, and then, of course, most of the disruption that we saw in the Middle East. And we still, with our dealers and with our direct sales, are well up over 30% in Europe.

So I think our products, our management team on the ground, our OEM business, our sensor business particularly and our EndoTek division, and all of our foreign operations are doing very, very, very well, which is very nice to have that diversity in the business.

So that's the report. Again, I'm delighted to present it to you. And I think what we'll do at this point is we will go ahead and turn the time over to our operator, and we'll see if we can answer your questions.

Thank you, sir. (Operator instructions.)

Larry Solow with CJS Securities.

Good afternoon, guys.

Hey, Larry.

Can you just give us -- if I do the math correctly, it looks like the embolization products, they were actually down a little bit sequentially? Is that right?

Yes. They were flat for the quarter. I think a lot of that is because the efforts that they had with the ASAP catheter that we launched in the quarter, which performed very well, and the Laureate. So one of the advantages of our business, or the plusses, is we have lots of products. One of the limits is these guys can only go out there and sell for eight or 10 hours a day.

However, I will go on the record as saying that we have a number of initiatives in that area. We are starting to see some of the effects of the disruption that's out there. I was talking just before we came online about a couple of new accounts that are substantial business that have come online in the embolic area just in the last couple of days. So we will see, as we go forward, that that business will continue to grow.

There's another factor too, Larry, that I don't want people to forget, and that is this -- one of the reasons that you see this growth in all the categories that Kent mentioned and that you've seen throughout the year, including that first quarter but all the way through, is the pull-through. Merit's presence in those labs is a big deal. So if you look at our micro-catheters, you look at our vascular access, those things are all up in double, and in some case, triple digits.

Right. And you mentioned the Laureate guide wire. Is there enough there where you could actually give us a number of what -- that actually did sell through in the quarter?

We don't want to go through that necessarily because it's a competitive issue, but it's doing fine. It's not doing as well as I would like it to do. Nothing is doing as well as I'd like it to do. I can't think of one single product. But by that I mean we don't share those specific numbers on that particular product for competitive reasons.

And in terms of the US, the 5% growth is a solid number in this environment. But how do you view the environment, anecdotally or whatever? Do you think it's actually getting worse out there, or better, sort of the same?

No, it's perplexing, and here's why. So we go back to this quarter. You take a look at that 5%. But if you take a look at where we are, for instance, in July, okay, the domestic sales to this point are up 25% over last year. So for me to say, well, they're going down, or they're flat, or I'm concerned about them, is pretty hard to do. Now, that's just the domestic.

Right, and it's just a couple weeks, right.

Just for three weeks in July, we're up 25% over the year-ago period. So that's not bad.

No, that's pretty (expletive) good.

If it were one week, that'd be of concern, but it's three weeks into the quarter. That's not bad.

Right, that's not bad. Okay. No, excellent. And just last question. I know you mentioned, just on the cost side, the SG&A looked like it [bopped] up a little bit, and that's like -- you called that a couple sort of one-timers there. So, I mean, is it sort of a good range in the mid-20s, or 27.5 percentage of revenue?

What we've said that our goal was for the year was about 28%, and we've been operating at 28.4% and 28.7%, so we're slightly above that. But for instance, in the month of June, we operated at about 27%. And you'll recall from my first quarter that -- in March, that we operated in the 26.4% for that month. So when we have those stronger months, it tells me that we do have that leverage that's available. But I would like to remind you that our competitors, and there are a few out there that are smaller companies than we are but that we compete in a lot of the same areas, are operating at around 30%.

So with all the things that we're doing and all the training on the new products, I'm going to work to get at that 28% that we promised, but it's not all that bad. And as I say that, I see my marketing vice-president smiling, and the back of the head nodding and agreeing with everything I say. So I'll have to meet with him after the meeting.

So anyway, so yes, it's a little bit higher than we'd like. I think Kent explained about where we were on the HiQuality trial, so that's adding a little bit to R&D. But then again, these are these investments that we believe have to be made.

Got you. Great. Thanks a lot. I appreciate it.

Thanks, Larry. Good to hear your voice.

Tom Gunderson with Piper Jaffray.

Hi, good afternoon, guys.

Hey, Tom.

So Kent, on gross margin up 70 basis points sequentially, how should we look at that, going forward? Can you continue to squeeze your costs down, or should we look at this as kind of a base? How do you want us to look at that?

Yes, I think it's a pretty strong base. There's not going to be a significant shift. It'll be gradual things as we can grow products that have higher margins faster than some of the others, yes. So that's where it's mostly going to come from.

We have cost savings initiatives. We have goals to have $5 million out of it. We have to do that to fight some inflationary things that come along from time to time. We have projects, for example, to move some of our low-margin catheters to Mexico that are on schedule for the end of the year. That'll help next year, really.

So there are things like that, initiatives we're doing constantly. And of course, increasing volumes help you apply overheads, and we have been applying overheads that are higher than our standard and creating positive variances because our sales are higher than we had projected somewhat.

So it's a base that's pretty predictable in this point, I hope, in the mid 46s, and we were promising 46.2 so we feel like we're glad we're a little ahead of that. But that is somewhere we'll keep working at gradually in the coming quarters.

And then, Fred, SG&A a little higher. I know you've said it, and the last questioner just asked, but is there a Q2 seasonality on trade shows that we should start building into our models for next year?

It is a good point. We attend the PCR meeting over in Ireland -- or excuse me, in Paris. That's a lot of money. We haven't always done it. We've done it in the last couple years. It becomes, in many ways, an OEM and international dealers meeting. So we evaluate these things from time to time. And as we get down into September and October, we have the TCT.

So with Merit's product mix, it's becoming -- I don't want to say a requirement or necessary, because we're the guys that make the decisions, Tom. But the international guys with a broad base, this is where our distributors come. And so it kind of serves as a large sales meeting and training meeting for these other players. So it's probably safe to say that it's likely that we're probably going to continue this in the near future.

But listen, we went to the TCT and some of these other meetings years ago, and then we weren't getting the return on investment that we wanted, and we stopped going. So as long as I see those international sales going up, as long as I see the dealer sales going up, and I go to these meetings and watch what's going on, then I'll continue to invest and take the time to do those.

Kent, you had a comment?

Specifically on that, I mean, this year it's (inaudible). We had over a half a million more in shows in the second quarter than the year-ago same second quarter. Now, we have BioSphere now and some other reasons for going to some of those shows, but you're right, it was a big quarter, probably the biggest we've ever had, and certainly half a million more than last year's second quarter on that line item.

Got it. Thanks. And then maybe a segueway. If I take a West Coast TCT this year and say they'll be drawing more from Asia, can we talk about Asia a little bit, Fred? In the past, you've said that you've had just 20% of your products are selling in China right now. Did that go up measurably in the quarter? And what would be your goal for end of year?

And the answer is it did not go up measurably. We're essentially selling six products there out of Merit's entire product line. We have received several licenses, and we'll receive several more.

But there's another important factor. Having a license in and of itself, although very important, isn't the end game. You have to also have that on the tender. And one of the things that's been going on in China is they have not had a tender for a while, and so you have to have the license and the tender. So we've been doing this, and all of this growth has been coming just from our core product. So our Chinese sales for the quarter -- Kent, I think I may have handed this to you -- 60% for the quarter--.

--And 73% year-to-date.

73% year-to-date. So the answer is we still expect to do approximately $20 million this year, and we're trying to do it just based on the existing product base that we have. But we are investing, and that's another part of the SG&A. we're getting ready for that next round, so we're doing a little bit of hiring in anticipation that we hopefully will see a tender in August, and the products that we have approved will go on to that tender.

Now, there are also a couple of other things that we're working on, Tom, in relation to our embolic materials. This is very, very important. The largest market for HCC in the world is in China, and our goal is to have approval for our HCC products in China by mid 2012. We'll have our Embosphere, we hope, by the first quarter. So these things drive a lot of sales opportunity and have a lot of pull-through.

So right now we're doing all of this with just what we have. I think that speaks volumes.

It does. And then, last question for now, I'll stick with Asia. You talked about Hong Kong and opening up end of this month, early August. Can you remind me, is that going from distributor to direct? What's the significance there?

Yes, it's significant in two ways, Tom. In China, as you know, in Mainland China, what we do is we work through distributors. In Hong Kong, we're going from an existing distributor in which we had a very amicable parting and which we have all of our existing customers and pricing and volumes, and we have all of that, and it was a very, very nicely done -- Joe Wright and Leon worked through that. So we have the customers, and we will now move that essentially from wholesale to retail.

But these are direct salespeople, so it's one more step removed, or closer to the customer. So these are full-time guys who are making sales to the hospital, not to a distributor. So that should mean that we're going to see higher products. All of our products are approved. This is significant. This is a big deal. It's not just six products. It's all of Merit product, and they're all at retail. So it's a significant opportunity.

In addition to that, we have a player coach who manages that but is also responsible for training. And being closer to Indonesia and being closer to Vietnam and Cambodia--.

--Thailand, Vietnam--.

--And Thailand and Singapore, and being able to train and monitor is going to make a big difference in terms of Merit's presence and opportunity to sell all of our products there.

So it's a big deal. Some of those costs are in those in this quarter, but I think it's a significant deal. And again, Merit, if you look at us and compare us with our peers, about 35% of our sales, moving towards 40%, come from these international markets that are significant, and it's where the growth is. So I'm just -- I feel very fortunate that we made the decisions early on to make sure that we put this infrastructure in place. And it's not easy, Tom. You've got accounting, legal, sales, logistics, management, and all these things are in place.

Got it. Thank you very much.

You bet. Thank you. Nice to hear from you, Tom.

Drew Jones with Stephens, Inc.

Hey, guys. I know you said you didn't want to get into too much detail on the technology deal that you signed, but I'm wondering if you can't give us a feel for timelines, a little bit better feel for timelines, and maybe whether or not we should expect these to be accretive or not.

Yes. Well, first of all, I'll give -- I'm going to dance for you a little bit. First of all, one of the products addresses a $400 million market. We believe that we have a product and the technology that we've been working on in various aspects for over two years. But we've acquired all the rights, including the patents, and have received notice from the inventory of notice of allowance on the parent cases. And so we have a lot to go with.

The reason that we are reluctant to go through and discuss all the issues is because one of the products is going to require -- is a 510(k), but it's going to require a study, and we're putting our timelines together and all that sort of things. And we will have that information available for you at our next call.

Let me just say it's a significant market. We believe -- this is my personal belief and the belief of many physicians who advise us -- that we have the technology and the most technology in this marketplace. So it's still pretty vague, but it's a big deal. It is a primary use product, and we're excited about that opportunity.

Another one that we signed this Monday and finalized has to do with vascular access. And again, I want to be very careful about this, but they will all be accretive, and they will be part of the R&D costs are already built into our numbers in terms of the percentages. What I want to be able to square around is, when we have this study that could require 40 or 50, I want to make sure I can give you the right numbers and when that's going to hit us.

But it's going to be some time in 2012, and probably an introduction to that product, the first one I talked about, in 2013. So we're about 18 months away, 24 months away from that product, but it's a significant deal. In fact, to be very honest with you, it's more significant than anything we have. That's how big a deal it is. It's huge. But there's a lot of work to be done. We paid very little money for these rights, and [with a huge], so the opportunity for upside.

So we don't have any expenses of personnel or of facilities or things that would be a drag. So it's just part of what's in the model. But then we're going to have the benefit of what could be a substantial opportunity for the Company.

So we're still moving down that road of moving from accessory products to more and more primary use products. And we'll discuss those when we can lay it out for you, show the markets, show you the costs and do all the things, and we can model all these things in. But the bottom line is you guys are going to be thrilled when you see this. You're going to be thrilled when you see the technology, and I'm going to prove to you, and to our customers, that we have the best product and the best technology, and it's proprietary. That's how excited I am about it.

By the way, we've been working on this for two years. So this isn't something that just came around the corner. We've been working on this for a long time.

Okay. But I guess that means that you guys aren't -- you're still on the prowl for other accretive acquisitions. Is that correct?

Absolutely. Yes. I mean, I have four things on my desk today. But we're value buyers. We're not out there to go chase. And they have to be bought right, and there's still, I believe, high expectations for various types of situations, and we're just not in any hurry. If the right thing comes along, it meets our criteria, it's accretive, it is in our sales point, then that's something that Merit's going to take a hard look at. Other than that, we're very patient.

Last one - can you give us the split on the BioSphere revenue between oncology and UFE, and then kind of the expected growth trajectory for each one over the next 12 months?

Yes. I don't have those in front of me, Drew, but we can get back to you. I will tell you that, because of the disruptions in the marketplace and the international opportunities, that much of our focus is on the oncology side.

Okay. Thanks.

Okay, thank you, sir.

Shawn Bevec with SIG.

Hey, guys, question about guidance. I'm sure you were expecting this. But given the strength that you've shown in the first half of the year, just wondering why you guys didn't update your guidance, because it's basically implying that it's going to go down for the back half.

Well, Shawn, the reason that we do that is we, as a policy, have always said, unless there was something so significant, that we would always just do it once a year. To be very candid with you, it's a double-edged sword. It's great for the short-term, but then if you do this and you get beyond the expectations, then it comes back and hits you.

The other thing is we're moving into the third quarter. Now historically, if we take a look at third quarter - summer quarters for medical device companies, in particularly ours and particularly where we have so much exposure to Europe and these places where we're doing so well, but these places shut down. They shut down for the month of August. They shut down for part of September.

And so it's always -- whenever this thing is brought up and we discuss it around the table about okay, if you take a look at the revenues of almost $180 million as an example, I think for the exact number for the six months is $177 million. So I'll round it to $180 million. You take that to $360 million. Our guidance was $341 million to $350 million. But I'm coming into the weakest part of the year. And so to do anything into that weakness just never makes sense, and so we just -- we'll just stay where we are, and you guys can imply what you want. That's the best I can tell you.

Now, last year, the business continues to grow. You see the momentum with new products and these international markets. But it just would make me -- it's just not what we're going to do. It's just too nervous going in -- it's third quarter. You just never know, so here we are.

I understand that, but also then the fourth quarter's typically the strongest of the year. So is it fair to say that it's going to be roughly equal to what you've done the front half, or better?

Well, I would hope that it would be that or better. But then again, I didn't expect that we would see -- I mean, look what's happened in the US. I mean, I have to tell you, that's a little bit of surprise to me. And if that thing goes south, then I'm going to be [lapping] water, and I don't want to do that.

Okay. Kent, can you let us know what the diluted share count at the end of the quarter was, not the average for the whole quarter?

Yes. Kent?

Yes, it's -- well, if you look at it for next quarter, I think you're 41 million to 42 million almost, yes, 42 million. So yes, that's weighting. And I'm glad you asked that, because there's three factors that have affected this right at the end of the quarter and will carry forward into the future. One is obviously the offering of 5.5 million shares, and that's fully dilutive now, going forward.

You have options that have been exercised with the higher prices and the expiration of some of the 10-year options. There were many of them over a million shares that have been exercised. And at the higher price, you have another 200,000 or 300,000 in dilution from those options. So that's really affecting the weighted average share calculations that you do, and that's why I'm glad you asked that. You need to look at that dilution.

As Fred pointed out at the beginning, even in this quarter, the second quarter just reported, we probably had a penny adjustment based on dilution alone that people didn't have in their models. We didn't predict that necessarily, either.

Another side to that is that, essentially, we've eliminated our interest expense, which is over $100,000 a month approximately, and that's $1.2 million worth of savings on a pretax basis approximately. So there are things that we think will help us make that up, and our goal will be to do all that we can to just eliminate that dilution. That's a lot of work to do. But there are other factors that play in our favor, and of course it puts us in a position, with all that's going on in the world, to be -- if we want to do a deal and we find the right deal, we have the capability to do a deal. And not everybody can say that.

Okay. And can you update your non-GAAP EPS guidance, given all the share offering and the option dilution?

Yes, I think it's right here. Kent, you want to go ahead and handle that?

Yes. So we're saying that the EPS -- we're converting, in other words, our original income numbers without changing that to a new share count. It's in the $0.63 to $0.67 on a GAAP basis, and I believe it's $0.72 to $0.75 on a non-GAAP. That's the annual average that's a little over 40 million.

Okay. And then last one on the R&D spend, I know you guys said you were going to spend more for some of these clinical trials, $5.5 million in the second quarter. Is that going to continue to ramp up, or are we going to stick around the $5.5 million to $6 million range?

No, it's going to ramp up as we get more and more people enrolled on that study. And I think we -- if I remember, Kent, it was somewhere about -- we thought that would add 100 to 120 basis points to the R&D spend overall.

Yes, it's about 1.5%.

1.5%, okay.

And it was -- $2.5 million was the estimated budget, so we're -- over $500,000 this quarter of that has been spent. But anyway, it'll start going up higher.

150 basis points over 2010?

Right.

That's correct.

Okay. Okay. Great. Thank you, guys.

Great. Thank you, sir.

Jayson Bedford with Raymond James.

Hi, good afternoon. Thanks for taking the question. Just a couple. I guess just on the cost of goods line, did you see an impact, or feel an impact, from higher resin cost? I haven't done the correlation with your inventory turns, but I'm just wondering if that impacted gross margin, which I thought honestly would have been a little higher, given the top line level.

Our gross -- when we looked at it in the first quarter, I think Greg estimated it was about 100 basis points is what it cost us for resins. Most of that cost is in the system. I'm going to say it's pretty close to 100 basis points that it costs us. And we haven't seen much relief from that. It went down. It's [popped] back up here. It's just under $100 a barrel. So yes, I mean, it's in there for the year. It's probably cost us to this point about 100 basis points.

I'm guessing it eases a little bit.

Yes. I mean, we'll get some that we bought.

They seem to raise it faster than they lower it, I'll tell you that.

They do. That's a fair comment, yes.

All right. Okay. And then, just in terms of kind of more of a macro question, you've talked about the impact, or potential impact, of competitive disruption out there. And I'm just wondering, did you benefit from that in 2Q, or is that more of a 3Q, 4Q and 2012 event?

Well, we know that, on 1 January of 2012, that whole landscape, so I would say that we're starting to benefit from it now, that when some -- at least one of those disruptions, that people had to work through their inventory. But as I mentioned to the staff before we came online, the two major accounts and two major purchases have come in in the last couple of days on one of those disruptions.

And we continue to see on the catheter side and the cardiology side the disruptions from the decisions made by one of the larger players and their withdrawal in other areas in terms of vascular access, catheters, and so on and so forth. So we're seeing part of that, and it's part of what's driving international, as well. Kent, you want to comment?

Well, there's certainly been a benefit in the specifics of our stance, so we've seen that nearly double in the tracheotomy and the airway stents. And that one -- it's small but it's significant within that business, and that continues to help us in the second quarter. It was bigger each month. I mean, May and -- we're in June -- were larger than April.

So the three areas, to summarize, Jayson, is that we are seeing it in the tracheobronchial stent area from a disruption from one of our competitors, and that's the one division that I think last month -- I think it grew at almost 48%. And then we're seeing it in the vascular access, so these are catheters and [sheets] in that area. And those areas are growing in the double digits, and in the vascular access, it's growing at 35%.

And then, finally, in the oncology area, we're just starting to see the effect of some of that. And the thing that's great about that is those products are in the area of -- well, there's substantial growth margin and contributors to increase gross margins.

If I could, I'd like to come back to your comment about the gross margins. 70 basis points improvement quarter-to-quarter, and above what our forecast is for the year by 30 or 40 basis points I think is pretty substantial. So I would love to talk to you after this call and get your take on that. So we'll talk about that, if you wouldn't mind, after.

That's fine. We can. Just on that, actually, is there any way you can break out the amortization between cost of goods and SG&A? What part of that 1-5 was in cost of goods (inaudible)?

Yes. I don't have that in front of me, but we can break it out, and we'll be happy to discuss it with you.

Okay, that's fine. Couple more questions, actually. In terms of profitability, are you profitable in China? And also, is EndoTek profitable?

In China, after our transfer profit, which we made for going there, and then taking a look at all of the expenses in China, the sales force, the offices and everything else, from our previous business model, we made an additional $1 million in the first six months.

After full tax, 35%.

This is after full tax, and this is after the transfer price. In other words, Merit got theirs, too, their manufacturing profit, and we made an additional $1 million after all the expenses. So the answer to that is yes.

The answer on the EndoTek division is no. It's still a drag to earnings, but it's making progress. And the sales and the new products that are coming out, it'll take us a little longer than we'd anticipated. But to answer your question, it is not a profitable division at this point.

It's about 30 -- it's about a third less profitable -- less of a loss than last year this quarter.

Yes, so it reduced the loss by about $300,000 over where it was, so it's making progress. And that's the key for us.

Okay. And then just last couple, you mentioned the HCC approval in mid-'12 in China. Is that a drug-eluting version, or drug-[laced] version, or is that the bland embolic?

So the bland embolic is a renewal, and we expect to have that some time in the first quarter, Joe? Okay. And we expect -- so that's the bland. So on the HepaSphere, which is the drug-eluting sphere, we expect that that will be about mid-year, is kind of our guesstimation at this point.

The important thing is, though, Jayson, is that on the Embosphere, which is the standard of care in China -- so the bland is the standard of care -- that's going to go essentially from a distributor, which the contract has expired, into Merit's hands. And that means that the pull-through on other products and Merit's presence and reputation I think will be expanded substantially because of that. So those are going to be good and positive drivers as we go into 2012.

All right. And then, finally, I think you kind of touched on it earlier in terms of your plans with the new cash. Can you maybe give us your parameters for a deal and maybe some of the metrics you look at internally?

Well, I think if you look at our past, things like the snare and those sorts of things which have higher than corporate averages that are to our points of sale, and that add value in terms of potentially technologies at a point of sale that we don't have. So we're not looking to buy the same thing necessarily. We're looking for things that enhance the value and R&D opportunities and development opportunities, going forward.

But I think that one of the things that you will see, and that as Kent and I were discussing this today, there are a lot of these smaller deals out there where someone may have a product that's being distributed but it's not working out for them, or we've been able to go out and, for instance, on this $400 million market, acquire the patents and the know-how and all those sorts of things. We may make a $1 million investment that may require $5 million or $10 million over two or three years but have the potential to return orders of magnitude of those expenditures annually. And those are the kinds of things.

So rather than go out and spending $50 million or $100 million, we can spend $3 million or $4 million, have benchmarked, do the development work and our R&D under our current umbrella, and take it to the marketplace using the skill sets we already have. Those are better investments for us, with less risk and without drag, and without having to add a whole bunch of layers or things that we don't want to have.

And because of the market environment we're in -- and I will say this. I've said it on almost every call for the last two years -- we're not seeing less deals. We're seeing more deals, more of these smaller opportunities, and we're starting to see the $4 million companies, the $10 million companies, the $15 million companies. And when we look at those opportunities, and we can take a look at what we can do globally and how we can put those in our same point of sale, they have tremendous opportunities for accretion.

Now, it doesn't mean I won't look at a larger deal, because I have a couple that I am looking at, but the chances of those are -- but we look at them. But these other ones, we can keep our cash, we can spend it wisely. We're spending it, don't get me wrong, but we're able to have opt-outs and opt-ins, and we can minimize the risk while trying to maximize the return.

So I'm just seeing a lot of those. I've got four of them sitting on my desk today that I've looked at or that we're in various stages of discussion, and some pretty cool stuff, neat stuff that we don't have.

Right. Okay. Thank you.

James Sidoti with Sidoti & Company.

Good afternoon, guys. Can you hear me?

We can, Jim.

Great, great. Fred, I'm sorry I didn't hear what the number was, but did you break out what the BioSphere sales were in the quarter?

I think I said they were flat. Kent, do you have--?

--$7 million--.

--About $7 million, a little bit over $7 million.

Okay, great. And any comment on pricing during the quarter? Some of your competitors have indicated that, in the US at least, that they were starting to feel a little pressure. Did you see any of that in any of your products?

I'll tell you where we are seeing some interesting things that are going on, and I think it speaks to the issues. Where we're seeing the inquiries are in the distribution models, not necessarily the GPOs, but there are distribution models out there that are saying, "Well, we're not making enough money," and we have an answer for them on that, and we wish them well, and the answer is no. And so you are getting -- we're starting to see a little bit of that stuff because these other models that people have don't seem to be working, but we're not going to make their problems our problems.

And how about in terms of your direct sales to the hospitals? Have you seen any impact on pricing there?

No. No, we're not seeing a lot. We get people to get -- from time to time, you see stuff. You get someone that gets a little bit more aggressive. You go slap them upside the head, and -- someone comes and tries to play like they're a tough guy, and we're going to do this or do that, and you say, "Okay, well, we'll meet that," and then -- so they try to swing at you. You duck and hit them in the chops, and you move on.

And then, Kent, that number, 42.8 million for share count, is that something that we should model then through the third and fourth quarters?

Yes. Yes. I don't expect it'll change a whole bunch, but it'll edge up a little bit if options are exercised or price of the stock goes up. But that's got everything in it now, going forward, the split, the offering, and the options calculation.

Okay. And then uses of cash, going forward, do you think you'll pay any more debt down, or do you think you'll keep the cash on hand in case an acquisition opportunity arises?

Well, as of today, we have no debt, so there's no more to pay down.

Yes, Jim, I'm glad you asked the question. Let me tell you, yes, we had indicated in our use of proceeds that we would pay off the $25.8 million. But as we looked at the economic environment and looked -- we had a swap on. We're paying 2.75 versus what we were borrowing for, and we could only get about 75 basis points. That's 190 basis point differential.

And we said to ourselves the economy is not getting better. It looks like it, in fact, may be slowing down. And so we said to ourselves, for $100,000 a month, we'll go ahead and take the swap of. We'll pay off that debt. And so we're sitting here with about $10 million, just short of $10 million in cash, with no debt whatsoever but with $125 million that we can go take down, or more at any minute. And we have funded some of these other smaller deals out of our cash flow.

So that's what we're doing in terms of cash management. It seemed like the wise thing to do. Wasn't what we originally intended to do, but again, why in the world would we go out and pay those kinds of rates and get yourself up for a negative return, so to speak, on what you're paying versus what you can get? And so we just took that off. It saves us $100,000 a month. But our powder's dry.

Jim, we'll borrow it when we need it, and if we want to swap [or] a long-term rate protection, we'll put it on then.

Okay. So to be clear, that $55 million of long-term debt that was in the press release, that's a stale number?

Yes, that was paid off in July, on the 12th of July. So going forward, the interest cost will drop.

Great. Thank you.

Thank you.

Ross Taylor with C.L. King.

Hi. Most of my questions have been answered, but maybe just two left. The SG&A costs, I wonder how much opportunity there might be to get some leverage on those once we get into 2012. That's my first question.

Yes. As I indicated, Ross, I don't know if you were on, but if you recall, we went back into the end of the first quarter and we saw a very, very strong March, and we saw that our SG&A costs, I believe, were some place at 26 and change. And then, as we looked at our June, we saw that our SG&A costs were about 27, but for the quarter they were at about 28.4. So it tells me that the leverage is there. And if we see the things that we hope for in terms of this, we hope that there will be some more leverage available there. Although for the year, our goal is still 28%.

Just some of the things that we're doing, these higher preference, physician preference items, just simply take -- they have more marketing costs, more training, videos, brochures, trade shows. And also, the training that we have to do with these international conferences, and by that I mean, we're training people in Asia. We're training people in Europe. So we do have higher expenses, and they will be here for the future. The days of the 23.5% are gone forever, but the opportunities to be in the 26% to 27% range I think are there. Right now we're at 28.7% for the quarter versus 28.4%. So there is leverage opportunity there.

Okay, that's good. And final question, you touched on this a little bit earlier, but maybe I missed the details, but wonder if you could review it again, but the embolics. I just wondered why they were kind of flattish year-over-year or down a little bit sequentially. I would have thought there was an opportunity to do a little bit better than that. Just wonder if you can touch on that, please.

Yes. I did discuss that, and I'm happy to do it again. Merit has a full bag of products, and a lot of those products -- for instance, if we take a look at our micro-catheters, okay? So our micro-catheters for the quarter -- and let me just get this here, Kent -- micro is up 138% and up 166%. So oftentimes, if we have that install base out there, our guys are going out where the base was already there, and we're getting other products pulling through, like the micro-catheters, like our vascular access, and so we have a lot of products.

And so we're -- for BioSphere, and I don't mean this to be disrespectful to that business or the product, but that's all they had. Merit has lots of other things, and we're looking at a pretty big shed here with lots of products in it. And so we're looking to pull -- the pull-through of existing products and not necessarily spending all that time on trying to pull through UFEs. That's what BioSphere did. That was their business. So we're doing that, but that's not where we're spending all of our time. We're trying to get the pull-through.

And then our focus will be -- and when we're focusing on training -- and it's complicated because of the disruption and the regulatory issues that are involved. But that goes to the issue of the oncology side. I believe both with the trial, which is pulling away from some of that business because they're trial sites versus user sites, that that's where the future is in terms of where -- the embolics.

In addition to that, and something that I haven't mentioned in this call but I've mentioned it previously, we have a new embolic that we expect to introduce in 2012. So you can look at lots of different areas. We can do anything, but we can't do everything. And yet we're satisfied as a business that we're hitting the things that we should and investing in the areas that will give us the longer-term returns.

So our opinion has not changed at all about the throughput -- or the pull-through, the gross margin contributors, and that growth opportunity for that business, particularly with the disruption. Hasn't changed one bit. In fact, if anything, I think we believe that there's more opportunity than there was when we bought it. We still continue to believe that.

Okay, that's good. Thank you.

Yes. And remember, you're looking at $7 million plus and some change on a business that's doing $91 million. So that whole number, as you look at it, is, what, 8%. So let's not forget about that other 92%.

Right. No, definitely not. Thank you.

Brad (inaudible) with Millennium Research Group.

Hi, good afternoon, and thank you for taking my call. I just wanted to, I guess, follow up on that same question and just emphasize on the oncology market. In Japan, if we can just take a look at Japan first, what is contributing to the slow or flat growth you're seeing there, and what product lines are we talking about?

Well, Merit sells a broad line of products there, and I think the whole issue is simply the earthquake. I mean, we've seen it from our distributors. They'll be here next week to do a business review. But the bottom line is is procedures and individuals just haven't had as many cases. And so last year, Joe, I think our business up in Japan was up 40%?

I think high 20s.

Okay, high 20s. This year it's flat, and it's been growing for years and years. But we had this event. The fact that it's not under water is more pleasing to me, that it's kind of holding its own. And it'll probably stop here, and it'll rest. I don't expect that we'll see much for the rest of the year, probably be flat. I think then, as the country recovers and we get new products approved there, that we'll see it moving forward.

We do have a embolic trial and approval underway in Japan as well for our Embosphere. So hopefully we'll see something there in the future.

When do you expect that to come online in Japan?

Joe.

2013.

2013.

Okay. And in terms of the UFE market in Japan, any focus in that, attention in that regard?

I have not turned my sight specifically to UFE. It's more the oncology side there.

Okay. In terms of, I guess, Southeast Asia, we're looking at Vietnam, Thailand, Singapore, Indonesia as future growth opportunities. Is that in reference to oncology there, or are we looking any other specific areas?

No, no. I think cardiology and radiology -- one of the things that's very exciting is in our vascular access products in the Vietnam. We're selling tens of thousands of units. So clearly, there are large expenditures being made in Vietnam to improve, or to at least -- we're getting more business than we've ever had there before, and it's accelerating. So those are just our general devices.

Again, we've not spent any time at this particular point on the HCC and the embolic stuff. We want to get our Chinese stuff. That's where our primary focus is, in Hong Kong, and then we'll move out there. But in the meantime, our other products are all doing very well in those areas.

Okay. And then just one last question in here. I know we're almost up to time. But in terms of China and Japan, I understand there's a bit of a difference in terms of the chemotherapeutic they're using. And how has that factored into the market in terms of the trials that you're looking at conducting for Japan and getting approval? I understand they use epirubicin as opposed to doxorubicin?

Yes. I mean, I think those are factors, but maybe more important are the uses of things like gel, foam, and PVA in some of those lower cost items. Those are quite prevalent in those areas. And to use these other embolics that we think will give them a better performance is going to be a big issue. But remember that the standard of care in China is [bland taste], which is really the Embosphere. And we're already dong a substantial volume there. The benefit for Merit is it's going to be going from wholesale essentially to retail through our distribution model.

Okay. And in terms of China, you mentioned drug-eluting beads are to come online in 2012. Is that correct? Is that with the doxorubicin indication?

No, no. Joe, you want to comment on that?

Yes. The HepaSphere we expect approval in mid-2012. However, it will not have a drug-loading indication. However, that isn't standard of care there.

So again, the standard of care is [bland taste], and we'll have to build that market. I think for Merit, our intermediate or short-term goal is to get those products approved and under Merit's control where they've been with the distributors, and then be able to have the benefit of the pull-through of our micro-catheters and vascular access product, which has been very successful here in the US and in Europe.

Okay. Thank you so much.

Thank you. And at this time, I'm showing no further questions. I'd like to turn the conference back to Mr. Lampropoulos for closing remarks.

Ladies and gentlemen, we appreciate your interest. I think the questions are all very, very good. But again, I want to point out that, if you take a look across at all the sections, if you take a look at inflation devices and then you back out one customer, you're seeing inflation devices growing at 10%. And when you see [DS] cases and stent cases that are essentially flat, and Merit's growing at 10% ex-an OEM customer, that's substantial.

It's 14% year-to-date.

And 14% year-to-date on a product that's been out there and mature. Now, if you take a look at our standalone products, over 16% growth. EndoTek for the quarter, 37%. You look at our catheter growth at 13.4% and 17.3% for the year. If you look at all these businesses and look at how we're doing, I believe that, based on what I've read and what I look at, that we're performing substantially better than our competitors. And as we execute our business plan, we continue to make the correct investments, and we think have made some extraordinary deals.

We've made some extraordinary deals that we'll be bringing to you in the future that are great opportunities that are going to enhance Merit's position. And in some cases in these large markets, we're going to have the opportunity to be a market leader.

And so we're continuing to build our business. We're continuing to improve our gross margins. We have a strong balance sheet. I don't know that we could do -- I mean, to my staff who's sitting in the room, I think it's tremendous performance, and I commend you. Can we do better? Of course. Can we do more? Of course. But am I generally satisfied with what we're doing? I am.

So I hope that we will get credit for the things that we've accomplished and the growth, going forward. And you know our commitment. You know our track record. We are not perfect, but our hearts are pure in terms of our desires and our attempts and the things -- and the way we run our business every day.

So we appreciate your interest. We'll look forward to talking to you in our next call. We'll talk to you more specifically about some of these markets and introductions and our plans for these areas that I think you'll be very excited to hear as we report to you in early October. I think that's right.

So that being said, Kent, any closing comments?

No. Appreciate the opportunity to serve and to keep on trucking.

Keep on trucking, okay. Well, ladies and gentlemen, thank you again for your interest. Kent and I will be available for your calls and questions and clarity. And we'll go ahead now and sign off from Salt Lake City and wish you a very nice evening. Good night.

Thank you, sir. Ladies and gentlemen, this does conclude the Merit Medical Second Quarter 2011 Earnings Conference Call. Thank you very much for your participation. You may now disconnect.