NuVasive Inc (NUVA) 2016 Q1 法說會逐字稿

Greetings and welcome to the NuVasive Inc. first quarter 2016 conference call.

(Operator Instructions)

As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Carol Cox, Executive Vice President External Affairs and Corporate Marketing. Thank you. You may begin

Great, thank you and welcome to NuVasive's first quarter 2016 earnings call. The Company's earnings release, which we issued earlier this afternoon is posted on our website as is an investor presentation, both of which have been filed with the Securities and Exchange Commission on Form 8-K. We've also posted supplemental financial information on the Investor Relations website to accompany our discussion. On today's call, we will be covering information that is included in the Investor Presentation and I encourage all of you to access these materials so that you can follow along.

Before we begin today, I would like to remind you that the discussions during today's call will include forward-looking statements, which are based on current expectations and involve risks and uncertainties, assumptions and other factors, which if they do not materialize or prove to be correct, could cause NuVasive's results to differ materially from those expressed or implied by such forward-looking statements. Additional risks and uncertainties that may affect future results are described in our news release and periodic filings with the SEC. NuVasive assumes no obligation to update any forward-looking statements or information which speak as of their respective date.

This call will also include a discussion of several financial measures that are not calculated in accordance with Generally Accepted Accounting Principles, or GAAP. We generally refer to these as non-GAAP financial measures. These measures include our cost of goods sold, gross margin, sales, marketing and administrative expenses, research and development expenses, operating margin, non-GAAP earnings per share, free cash flow and EBITDA. Reconciliation to the most directly comparable GAAP financial measures can be found in the news release and the supplementary financial information which are accessible on the Investor Relations section of the NuVasive website.

Joining us on today's call are; Greg Lucier, our Chairman and Chief Executive Officer, and Quentin Blackford, our Chief Financial Officer. With that, I'll turn the call over to Greg.

Thank you, Carol, and good afternoon, everyone. NuVasive is off to a strong start in 2016, as we continue to drive innovation, growth and profitability throughout the business. I'm pleased to report, we delivered on each of these strategic elements in the first quarter of 2016.

This translated to a total revenue increase of 11.8%, or 12.3% on a constant currency basis, representing a return to double-digit growth and included reaccelerated growth in our key markets in Western Europe where we have been investing over the last several quarters. This strong revenue performance coupled with improvements in our gross margin and reductions in our SM&A spend, drove our non-GAAP operating profit margin higher with 150 basis points of expansion to 14.1% and resulted in a non-GAAP EPS of $0.31.

Additionally, during the quarter, we executed against several inorganic opportunities to augment our internal growth and to improve our capital structure. We completed the acquisition of Ellipse Technologies in mid-February, which now operates under a newly created division called NuVasive Specialized Orthopedics, or NSO, and completed the purchase of our Brazilian distributor, Mega Surgical, at the end of March. Both of these assets will contribute to our growth in 2016 and beyond.

During the quarter, we also took steps to enhance our capital structure by putting in place a revolving credit facility and issuing new convertible notes to refinance our existing convertible note. This provided us with greater liquidity and certainty around our capital structure out to 2021. I'm pleased that we're able to reach favorable terms, extend our maturity by five years and address the dilutive impact our previous notes have had as our stock traded into the money. We're highly opportunistic in the timing of the offering, securing an attractive deal and one which also benefits our shareholders. Quentin is going to provide you with more details in a moment.

Now, let me elaborate about Q1. Total revenue exceeded our expectations coming in at $215.1 million, or 11.8% for year-over-year. This included a standout performance in NuVasive's core US final hardware business, which was up 11.6%. This robust growth was driven by the continued adoption of our Reline posterior fixation system along with ongoing uptake of iGA, our surgical planning technology, which pulls through spinal hardware.

Our results were up in all procedural categories, posterior lumbar, anterior, lateral and cervical. Customers see NuVasive as the emerging full line spine company and the buying patterns are reflecting that preference. Additionally, we benefited from the inclusion of NSO's results for part of the quarter, which reflected exceptionally strong MAGEC sales and continued robust growth from PRECICE. The integration process for NSO is on track and proceeding very well.

In fact, I'm pleased to report that a few weeks ago, a Chief of Surgery at a leading children's hospital utilized NuVasive's Reline fixation system when implanting the MAGEC rod for the first time in a young patient. This is an early symbolic event as we not only broaden our reach to the early onset scoliosis market, but also begin to deliver upside of the NSO acquisition with a pull through of NuVasive hardware in MAGEC procedures.

In Q1, international revenues grew 20.7% on a constant currency basis to $28.7 million, or 16% as reported, including the partial contribution of NSO during the quarter. In Q1, we successfully drove growth in our core direct markets including Japan, Australia, New Zealand, the UK, Italy and Germany, as we concentrated our efforts to go deep in each country. Once again, Asia-Pac continued to be an exceptional grower with Japan leading the way, up approximately 45% on a constant currency basis.

I'm particularly pleased to report that EMEA grew approximately 18% on constant currency basis, thanks to the continued strength in Italy, and bolstered by ongoing positive results now in Germany, as well as a growth resurgence taking hold in the UK. We're particularly pleased with our return to growth in Germany and the UK, as it reflects the progress earned by the localized business plans we put in place in the second half of 2015. Latin America continued to experience weakness during the quarter, down about 34%. This decrease was driven largely by Brazil, which delivered almost no revenue in Q1, as we expected.

To better realize the potential Brazil's very sizable market including a new opportunity to compete in Brazil's large public healthcare market, we transitioned Brazil to a direct model and have now closed the acquisition of our exclusive distributor, Mega Surgical. By virtue of this deal, we can now provide the appropriate inventory to serve the business and have direct contact with surgeons and key opinion leaders throughout the country, where direct relationships are the preferred method of doing business. So all in all, our resurgence in Western Europe, coupled with our confidence in 30% plus growth in Japan, and now going direct in Brazil, we're setting the Company up for a strong international performance in 2016, where we expect to see actually accelerated growth for the balance of the quarters.

As we've been communicating to you this past year, market expansion is a key element in our efforts to deliver value creation for our shareholders. During the first quarter of 2016, we delivered a 150 basis point year-over-year improvement in our non-GAAP operating profit margin to 14.1%, financially a nice leverage of the cost structure. We remained committed to delivering a nearly 1,000 basis point increase in profitability in the medium-term. The build out of our West Carrollton, Ohio, manufacturing facility is on track, with initial production starting as early as this summer and a full ramp up by year-end.

Both asset and sales force efficiencies are an ongoing process as we continue to drive operational excellence throughout this organization. As you've heard today, our confidence in the international business is high and we expect the associated economics to follow as we get bigger over seas.

These strides will allow us to meaningfully improve our financial profile. With an increased focus on disciplined spending and improved efficiencies, we will continue to drive our adjusted EBITDA higher. Reducing our non-GAAP effective tax rate is also an area for significant improvement as we scale the business. We've targeted to reach approximately 41% this year, move into the mid to high 30% range next year and drive to the mid to low 30% beyond that point.

Lower depreciation will also come into play to further enhance our financial profile as we target reducing our CapEx burn rate from approximately 8% to 6% of revenue. We will achieve this through a laser focus on better set configuration and utilization in the near-term, while opportunities for 3-D printing could be sizably beneficial in the longer-term.

As we look to build on our strong momentum in Q1, we remain focused on three core initiatives; drive innovation that addresses unmet clinical needs and improves clinical and economic outcome. Number two, drive organic growth in the US and international, while also pursuing strategic M&A that strengthens our leadership in spine. Number three, deliver increased profitability through operational excellence.

There's no doubt that there's a tremendous amount of consolidation taking place in the spine industry today. As large players like NuVasive bring both innovation and threats of offerings to the table, our surgeon customers and hospital systems are increasingly consolidating the myriad of vendors. This means the smaller players of limited offerings are getting squeezed out of the equation. We believe there will be only a handful of companies that will be able to compete in this new industry order and NuVasive is clearly one of them. The trends are absolutely in our favor and you seeing this play out as we continue to take share.

Today's healthcare environment is increasingly moving away from fee-for-service and procedural selling is becoming more and more relevant. That means that shorter hospital stays are critical and the increase adoption of minimally invasive techniques that NuVasive has pioneered will play an ever more central role in delivering better recovery time. Our leading lateral XLIF procedure alone is still massively underpenetrated and there remains tremendous opportunities ahead to drive conversions to MIS, that surgeons move away from traditional approaches with high morbidity.

We know what it takes to compete effectively and we're building a Company ready to capture the opportunity before us. When you consider the possibilities of our computer-assisted iGA system or the potential of imaging and navigation technologies to allow for even greater surgical clarity and precision, or designing implants that uniquely fit the patient, at NuVasive, we believe we have barely scratched the surface of what can be achieved. With our focus on providing end-to-end procedurally integrated offerings that are truly differentiated, we intend to extend and own each aspect of the spine care continuum, from diagnostics on the front-end to measuring clinical value on the back end and everything in between.

From a corporate development perspective, we're very focused on making moves to build capability along this spine care continuum. We have a very active pipeline that includes acquisition targets, strategic partnerships and truly out-of-the-box thinking. Top priorities include opportunities that complement our technology leadership position in spine, targeted geographic expansion, technology that makes procedures even safer, as well as possibilities to further enhance our unique service offerings, just to name a few. We're going to use our deep industry knowledge around spine surgery to take advantage to not only convert surgeons, but increasingly partner with the leadership of healthcare systems to help them develop highly competitive and profitable spine franchises.

Through our certified partnerships, we tend to infuse our expertise and help hospital partners transform how spine procedures are approached, measured and valued from a clinical and economic perspective. Going deep into an account will allow us to pursue even more attractive agreements that include performance-based risk sharing relationships.

Once consolidation narrows the playing field, there is no question that outcomes-based care is next and we are ready. We have a clear vision of the future and are confident that we are managing our business today that meets the needs of tomorrow that will drive our next phase of growth and position us strongly in the evolving healthcare market. Now, for more details on the quarter, let me turn it over to Quentin.

Thanks, Rick. We are extremely pleased with the strong results of our first quarter, which continued to demonstrate the building momentum in our US implant business as well as our continued commitment to improving our profitability profile. For the first quarter of 2016, growth in core NUVA US spinal hardware accelerated sequentially for the fifth time in row, with the US business hitting its highest growth level since early 2014. In addition, we delivered 150 basis points of non-GAAP operating margin improvement versus prior year, inclusive of the recently acquired NuVasive's Specialized Orthopedics or NSO.

Let me run through some of the highlights driving our performance. As a reminder, the financial information that I refer to during the course of these prepared remarks will be on a non-GAAP basis, unless noted otherwise. Please refer to today's earnings news release as well as the supplemental financial information on our Company website for further information regarding our non-GAAP reconciliations.

NuVasive revenue, including the contribution from NSO, was $215.1 million, resulting in double-digit revenue growth of 11.8% as reported, or 12.3% excluding the impact of currency. NSO generated $5.8 million of revenue in the quarter, which contributed approximately 3 percentage points to our overall growth rate on both a reported and constant currency basis. Our US spinal hardware, which includes MAGEC and PRECICE, performed extremely well for the quarter and was up 15% including roughly 3 percentage points of growth from the acquisition of NSO.

Excluding the benefit of NSO, our core NuVasive US spinal hardware revenue grew 11.6% for the quarter. As mentioned earlier, this represents the fifth consecutive quarter of increasing growth rates in our US spinal hardware business, which demonstrates the building momentum of our iGA product platform. Notably, in the quarter, our core US lumbar business returned to double-digit growth, growing more than 13%.

Revenue from US surgical support came in at $59.6 million, up 3.7% compared to same period last year, primarily driven by increased volumes. There was no revenue contribution in this category from the acquisition of NSO. Our OUS business performed ahead of expectations for the quarter, growing 16.7% on a reported basis, or 20.7% on a constant currency basis. NSO contributed roughly eight percentage points of growth for the quarter on both a reported and constant currency basis.

Our underlying core NuVasive international business saw a nice acceleration in growth from the fourth quarter of last year, to 12.5% on a constant currency basis. This was good in light of the fact that we recognized minimal revenue from Brazil during the first quarter, which resulted in Latin America being down meaningfully in the quarter. As we head into the remaining three quarters of the year, we would expect Latin America to begin to contribute to growth once again.

The growth of our core NuVasive international business was led by our Asia-Pac and Europe regions, which realized growth in more than 23% combined, excluding the impact of currency. Japan, Australia, Italy and Germany all contributed nicely to growth in the quarter and we saw the UK return to near double-digit growth after refocusing our efforts in that market in the third quarter of 2015. The efforts we made in 2015 to reposition ourselves in our Western European markets are beginning to produce results.

That, together with the fact that will begin to operate on a direct basis in the Brazilian market for the remaining three quarters, have us feeling very good about our international business for the remainder of the year. Importantly, on a pro forma basis, which would assume a full quarter of NuVasive and NSO revenues in both 2015 and 2016, our total revenue grew approximately 10%, or 10.6% excluding FX, as we outperformed our expectations to drive high single-digit growth with the addition of NSO.

Turning to the rest of the P&L, non-GAAP gross margin for the first quarter was up 80 basis points year-over-year, to 77.1% improving from 76.3% in the same period last year, and was also up in the fourth quarter of 2015 levels of 76.2%. This year-over-year improvement was primarily driven by the temporary repeal of the med device tax of 70 basis points, while lower royalties and greater asset efficiencies together with product-related transition costs, combined to offset in the quarter. Pricing pressure remains in the very low single-digits and negative 1.2% and had a negligible impact on gross margin. As a reminder, we did not realize any contribution from our in-house manufacturing initiatives in the quarter, as those benefits are expected beginning in 2017.

Non-GAAP SM&A expense as a percent of revenue, improved 80 basis points year-over-year, to 58%, down from 58.8% in the same period last year, which demonstrates our ongoing commitment to drive operating leverage from this particular area of focus. Notably, we saw nice leverage in SM&A from our core NuVasive business, with growth 210 basis points of improvement primarily from greater asset efficiencies, which included leverage for better utilization of our instruments and back office efficiencies. Partially offsetting these improvements was a negative 130 basis point impact from the higher spend as a percent of revenue that NSO realized.

We increased non-GAAP R&D investment during Q1, with spending up 10 basis points to 4.9% of revenue, compared to 4.8% in the same quarter last year. This was primarily attributable to investments being made in our NSO technologies as we continue to pursue the numerous opportunities available with MAGEC's unique magnetic drive mechanism. In addition, investing at the core NuVasive also continues with investments in VIG platform as well as further efforts to expand our procedural offerings.

In all, we're making great progress in our efforts to drive profitability improvements with non-GAAP operating profit margins up 150 basis points year-over-year to 14.1% in the first quarter, compared to 12.6% in the same period last year. Excluding the impact of NSO, operating margins would've been up 340 basis points versus prior year, or at 16%. The improvement is meaningful and coming from the areas that present the greatest opportunities, both cost of goods sold and selling, marketing and administrative expenses. Most importantly, we're making this progress on the profitability front, while at the same time, accelerating the growth profile of our overall business.

Moving further down the P&L, interest and other expense net on a non-GAAP basis was $3.8 million in Q1, up $1.3 million compared to the same period last year. This increase is primarily driven as a result of a new interest expense associated with the 2021 convertible notes we issued during the quarter and the incremental interest expense associated with our $150 million revolver, which was also established during the first quarter. I'll speak more to the refinancing efforts in a moment.

Now, for tax. As the result of various purchase accounting impacts associated with the acquisition of NSO and our Brazilian distributor, and accounting for the repurchases of 2017 convertible notes during the quarter, we realized a pretax net loss on a GAAP basis for the first quarter of 2016. As a result, we recognized an income tax benefit of $4 million on a GAAP basis, or a GAAP tax benefit rate of 29.8% for the quarter. Adjusting for the items that we exclude for our non-GAAP results, we realized a non-GAAP effective tax rate of 40.6% for the quarter.

First quarter 2016 GAAP loss was $8.9 million, or a loss of $0.18 per share, compared to GAAP income of $31.6 million, or earnings per share of $0.61 in the same period last year. The variants to prior year was primarily the result of a new convertible note issuance and repurchases of existing convertible notes during the first quarter of 2016, and the net mitigation gains during the first quarter of 2015.

Adjusting for the items that we exclude from our GAAP results, non-GAAP earnings for the first quarter of 2016 were $16 million, or $0.31 per share, compared to $15.1 million, or $0.30 per share, in the same period last year. In addition, adjusted EBITDA margin, which excludes the impact of non-cash share-based compensation was 22.5% for Q1, a 50 basis point decline compared to 23% in the same period last year as the result of the acquisition of NSO.

Our cash investments balance at the end of the first quarter was $331 million. For the quarter, free cash flow was strong at $39.1 million and included a $15 million tax refund. Adjusting for this item, underlying free cash flow improved 50% versus the prior year, which was driven by reduced capital expenditures related to our corporate office remodel in the same period last year and lower instrument set investments.

Now, let's spend a moment walking you through the details of our convertible notes issuance in March. The purpose of this transaction was to execute a corporate refinancing that will provide certainty around our capital structure up to 2021, with favorable economic terms, while also working in the best interest of our investors to eliminate the potential dilutive impact of our 2017 convertible notes which have traded into the money on several occasions.

We raised $650 million, including a $100 million overallotment option, which generated net proceeds of approximately $634 million. The notes have a coupon rate of 2.25% in addition to a callable feature that provides us the opportunity to control future diluted impacts to our shareholders. In addition, we used the proceeds to put in place a bond hedge at a cost of approximately $66 million that takes the effective conversion price from $59.82 to $80.

Of the remaining proceeds raised, we use approximately $344 million to repurchase roughly 70% of our 2017 notes. We expect to use the remaining proceeds to make additional purchase of 2017 convertible notes and for general corporate purposes. In addition within Q1, we decided to pay down the original $50 million draw on our revolver.

We were very pleased with the outcome in a new debt offering and we are opportunistic in timing to take out the majority of our existing 2017 converts when the market pulled back. In doing so, we achieved our goals of establishing certainty around our capital structure, extending maturities out to 2021, securing favorable economic terms and addressing the dilutive impact of the majority of our 2017 notes.

All in all, I couldn't be more pleased with how 2016 has started for NuVasive. Our revenue growth momentum is extremely strong and we continue to make great progress on the operating margin front. We are moving quickly to fully integrate both NSO and NuVasive Brazil in addition to enhancing our financial flexibility with our convertible notes issuance. We're driving the business hard and are confident about continuing our strong momentum throughout the year.

That said, we will continue to be prudent with our approach to guidance. And as a result, at this time, we are not updating our constant current revenue expectations from our previous guidance. However, to reflect the changing currency environment, we are increasing our revenue expectations on a reported basis to $928 million, up $5 million from our previously issued guidance of $923 million.

We now expect our reported revenue growth to be 14.4% and our constant currency revenue expectation remains unchanged at approximately 14%. I want to be clear, this is not a signal that we expect any of the momentum from the first quarter to materially change. Rather, our records (inaudible) upside play through our numbers first and then revisit revenue guidance in Q2 or Q3, as we normally do.

Turning to the rest of the P&L, due to the acquisition of our Brazilian distributor and our new capital structure, we are updating certain aspects of the P&L. However, we are not changing our non-GAAP operating profit margin or non-GAAP EPS guidance for the year. Only the buckets within. By acquiring our distributor in Brazil and moving to a direct model, we now expect gross margins to approximate 77.4% for the year, up 50 basis points from our initial guidance. In addition, we now expect our SM&A expense as a percent of revenue to approximate 56% for the year, also up 50 basis points from our initial guidance.

Our expectation for non-GAAP operating profit margin remains unchanged at 15.8% for the year. The impact of issuing our new 2021 convertible notes while extinguishing roughly 70% of the 2017 convertible notes, will result in and increase in interest expense of approximately $4 million for 2016. This is reflective of the new interest expense associated with the 2021 convertible notes, the fact that we will continue to carry roughly $126 million of the 2017 convertible notes and a coupon rate of 2.75% for the remainder of the year, and a reduction in interest costs associated with our $150 million revolver.

We now expect non-GAAP's other income expense to approximate $19 million for the year. Offsetting the impact of this higher interest-related cost on EPS, is a reduction to our weighted average shares outstanding, which reflects the elimination of the incremental dilution from the 2017 convertible notes that we repurchased. We now expect non-GAAP weighted average shares outstanding to approximate 51.3 million shares, down from our original guidance of approximately 52.5 million shares.

Our expectation for our non-GAAP tax rate for approximately 41%, remains unchanged for the year. And the net result of all these changes is neutral to non-GAAP EPS as we remain committed to our prior guidance of $1.48 per share. As the result of the acquisitions of NSO and our Brazilian distributor, as well as the issuance of the new convertible notes and partial retirement of the old notes, we now expect our GAAP tax rate to be approximately 63% and GAAP EPS for approximate $0.20 for the year.

In summary, we are certainly encouraged with NuVasive's strong start to 2016. However, we're only three months into the year and there is still a great deal to accomplish. We are actively managing integration of NSO and our Brazil distributor to ensure we optimize their contribution to our business going forward.

We're very encouraged by our international performance. Our plans are working and we are eager to see our international growth plan continue to play out and drive even better results throughout the year. And we continue to be disciplined in the management of our business and seek every opportunity to extend excellence throughout our operations in push our profitability even higher. With that, I'll turn the call back over to Greg

Thank you, Quentin. In the year since I participated on my first earnings call, looking back over the past 12 months, I couldn't be more proud of our NuVasive family and how we've all grown and excelled together. We've adapted to change and minimized any disruption to our business along the way. And we've attracted some terrific leadership to the Company to bolster an already strong workforce.

We are operating now with better systems and processes as well as having an operational excellence attitude that permeates the organization. We've successfully launched iGA, our single greatest technology innovation since XLIF, and now we've added NSO and our Brazilian distributor as we look to extend our innovative leadership and expand our geographic reach on the way to reaching and surpassing $1 billion in revenue. It's been a phenomenal journey so far, but I would tell we're really just getting started. With that, we'd be pleased to take any questions.

(Operator Instructions)

Matthew O'Brien, Piper Jaffray.

Thanks, afternoon and thanks for taking the questions.

Quentin and Greg, I know you are trying to be conservative with guidance here, but we've seen other companies put up good Q1 results and go ahead and raise numbers for the year. So I think it would just be helpful if you could give us a sense for some of the areas that you're monitoring that potentially could lead to some weakness beyond what you're seeing here in a very strong first quarter across the board?

Then, roll within that question, clearly there's very good strength domestically in the spine market right now that we've seen from you and some your competitors. Can you give us a sense for what's going on here in what's seasonally a soft quarter and how you feel about the durability of the US market throughout 2016?

Matt, it's Quentin here. We tried to make it clear in the prepared remarks, there's nothing that we're seeing in the business that we're trying to acknowledge or highlight as we think about the remaining quarters ahead of us. I think we're certainly very pleased and encouraged with what we're seeing. The momentum behind iGA is building. There's no question about that. But at the same time, we are going to anniversary that launch here in the second quarter. So in our domestic business, the growth rates are going to start to get tougher both from a lumbar perspective as well as a cervical perspective.

And so, while we feel good about the momentum we see, we're just simply not going to get ahead ourselves 90 days into the year. But, there's not anything else that we're trying to signal in that. So, I wouldn't walk away from this trying to read into it. There is not a message that we're trying to send for you. But again, we are early in the year. Happy with where we're at, but we're going to let this play out a little bit.

In terms of the overall market, we've seen the results put up from several of the competitors that, just as you have. Again, I think it's a bit too early to speak to what might be playing out in the marketplace. We're 90 days off of where we ended last year, and I think there was some questions around Q3 and Q4, with the bigger players and how they were performing. Certainly, we saw one of those performed very nicely in Q1.

So I think it's a bit too early to say exactly what's going on in the marketplace, but from our perspective, it feels very good. Volumes are strong, pricing environment's very healthy. We've been talking about this for a while. It seems there's more tailwinds out there potentially than headwinds and hopefully, that's what we're starting to see play through. But we're not going to get ahead of ourselves until we see that play out for a couple of quarters.

Understood. Thank you.

Richard Newitter, Leerink Partners.

Thanks for taking the questions.

Maybe one question on OUS. So Quentin, I think you acquired your Brazilian distributor and that's probably going to result in some amount of revenue capture that we weren't seeing previously. What would be the logic for keeping the organic growth guidance constant, given the upside in the first quarter and the likelihood that you're going to actually see revenues creep in into future quarters from that Brazilian distributor? How should we think about that as we model it?

Yes, and we framed this up as we talked about the acquisition of that Brazilian distributor. I think historically, we've talked to the run rate in that business of being $1 million to $1.5 million a quarter. Obviously, we acquired them at the very end of Q1 and you can do the math and come into a couple of million dollars of potential upside on the full-year.

At this point again, 90 days in and that international business, we are working through some transitions. They've performed nicely so far in Western Europe, but just working through some of these changes. It really comes back to us just waiting to see into the mid part of the of the year before we come out and update expectations, and just not getting ahead of ourselves. But, I would say the confidence in that international business is as high as it's ever been. And certainly, even more so than where it was coming into the year after executing the acquisition of that Brazilian distributor.

Okay, just to be clear, Quentin. It sounds like based on all else equal, there's absolutely nothing you are seeing in the business that would suggest that that shouldn't be incremental to your previously and current guidance OUS. But for now, you're not ready to go and raise your guidance. You'd like to give it another quarter. Is that a fair summary?

I think you're thinking about it the right way. Obviously, we've played out our guidance. It is what it is for the full-year, but we feel confident that Brazil is going to start to contribute and we were very clear in our prepared remarks. In Q1, there was no contribution from Brazil, or very minimal. Less than a couple hundred thousand dollars of revenue. So that won't be the case in Q2, Q3 and Q4.

Okay, that's helpful. Very clear, thank you.

And then, Greg, one for you. You talked a little bit about this continuum of care and spine. I know that you -- from diagnosis to measurement on the backend of spine procedure results. We are seeing bundled payments begin to take hold in April, in hips and knees. There's some possible speculation that that kind of payment model could spread to spine.

So one, what are you aware of as the timelines, or whether or not this is an initiative that is likely to hit the US spine market anytime soon? And then two, maybe just describe a little bit more clearly how NuVasive is potentially positioned with that continuum of care mentality to service that business model? Thank you.

In terms of formal bundled payments and spine, we see that happening, but probably not happening for a couple of years. That said, I would tell you the way we are approaching the industry and approaching customers, is to essentially offer that already through procedural pricing and creating more of an even-priced approach to procedures, and reducing the variability for the hospital. So we're ready if it formally comes about and probably will be well penetrated with what I just spoke about, well before any formal bundling announcement.

In terms of our preparation along the spine continuum of care, it's not lost on me that this is a surgery that when the patient is chosen right, and the doctors trained right, delivers incredible restoration of vitality to life. And so we will in subsequent earnings calls, certainly by the Investor Day at the end of the year, the sharing with investors what we're doing on the front end, as well as the backend, in terms of post-operative recovery of services and technologies. We're just not going to do that here in Q1 just yet.

Thanks.

Kaila Krum, William Blair.

Hello, guys. Thanks for taking my questions.

A follow-up on the international question. You suggested that some of your efforts in Germany and the UK are beginning to drive improvement this quarter. And I don't believe even UK was expected to rebound until later this year.

So I'm curious specifically, what do you believe is driving not earlier-than-expected outperformance? And is it fair to assume that -- again, I understand you're trying to be conservative, but that that international guidance specifically now represents more of a base case assumption at this point in time.

As we said to investors last year, we made a management change of our international business to a long standing executive Jason Hannon, and we wanted to give him a couple of quarters on the ground to both change attitudes and change investment to get the right type of performance. And that if our investors would just hang tight with us, they would see international growth rebound to where it had been earlier. I think this first quarter is good proof statement that we did as we said, and further, we've foreshadowed it gets better from here.

Specifically, what's driven it, I could tell you about the countries that continue to do well. But I think you'd be more interested in the inflection, that is the changes. I would highlight Germany as a poster child of that. This is a business that has been flat line for a lot of years for NuVasive. We flew in everybody who was responsible for Germany. We had everybody here in San Diego responsible to help them, and for several days, we worked out an action plan very early on and what it would take to become much more profound and much more relevant in Germany and you're starting to see that play out.

We're doing that country by country. It's intensive management. It's good management and its delivering the results and we didn't have that before. So that's what I'd tell you is changing in international. It's just much more aggressive management at a level of detail that we were not operating the business at previously.

Okay, that's helpful.

You've mentioned the intention to expand iGA into the cervical space in the US, and also extend the product's reach internationally in Japan. So, can you just give us an update in terms of where we are at in those processes and how should we think about those initiatives over the course of 2016? Or, should we still be focusing on the lumbar segment and just pull through revenues from there.

The majority of the driver this year, Kaila, is going to be the pull through in that lumbar segment. You'll see something in cervical over the course of the year, but lumbar is going to be the big driver at this point in time.

With respect to Japan, iGA is something that we're focused on, but that's going to take a bit longer. What you're seeing there is Reline being introduced into that marketplace over the course of the year. So you're getting that fixation system, but not yet the software capability on the planing and entropic reconciliation. So components are going into that market, but not all at one time.

Great, thank you.

Kyle Rose, Canaccord.

Great, thanks for taking the question and congratulations on a good quarter. I wanted to dig on the US surgical support in other segments there. It came in a bit stronger than we were expecting. Just wondered if you could talk about where the biologic business stands as of the Q1 2016? Tough comp in the prior year, but a good performance in this quarter. Also, how much of that is AttraX and how should we be thinking about AttraX as we move through the year?

Good question, Kyle. It's really not any contribution from AttraX yet in the US market place, which is where we were recently approved. So, we have sold AttraX internationally for a period of time, but no meaningful improvement in the contribution from AttraX just yet. And you're looking at that being in the back half of the year before you're going to see a meaningful contribution.

Within the surgical support, I would say biologics was down again in the quarter. It was certainly up against a tough comp of Q1 last year. We should start to anniversary that as we get into the remainder of the year. But biologics was down.

Offsetting that was very strong growth in our disposable business of neurovision, or NVM5, which is really being driven by the services business. So if you see our service business continuing to progress well and there's real revenue come from that, it generally comes from a disposable sale. And that was up very meaningful in the quarter, more than offsetting the biologics pressure that we saw. So we were extremely pleased with what we saw coming out of what we call our IOS or that NVM5 disposable business and excited about what we're seeing there.

Great, and then just one quick follow-up. You've got the iGA initiative, as well as the broader surgical planning software. We put a lot in the industry about robotics and more specifically, robotic-assisted pedical screw placement. What are your thoughts on that market and that opportunity within the space and do you have anything in the works to develop the product offering for that?

We believe that ever more sophisticated preoperative planning imaging that integrates into these preoperative plans, navigation that actually can work in spine, which nothing really does today to the degree we think it needs to, and maybe down the road, robotics will place pedicle screws, although we would say that's third on our list, are all technologies that we believe in, they'll come about and you'll see that come from NuVasive.

Great, thanks a lot.

Jeff Johnson, Robert W. Baird.

Good evening.

Quentin, let me ask you a question on margins. You did 150 basis points of operating margin expansion this quarter. Still guiding to 40 basis points for the year. If I fully load Ellipse into the Q1, it looks like to me you still would have been over 100 basis points. Is there anything over the next three quarters that you need to highlight or call out from a margin perspective that we should keep in mind? Or again, are we just talking to conservatism like we're talking on the revenue side?

No, what you are going to see in that NFO business is a continued investment into that MAGEC magnetic drive mechanism and how we can expand the applications beyond just the current MAGEC and PRECICE portfolio. So, we guided early in the year that R&D spend would accelerate up into the mid-5%, 5.6% or so of revenue. We're still sitting down sub 5%, so you're going to see some incremental investment go into R&D.

But at the same time, I'll tell you the core business will continue to lever. We're focused on driving that leverage like we did in Q1. To the extent that we can pass that through the bottom line, we'll do that. But again, we're not going to get ahead of ourselves until we execute on that. There are some incremental investments we'll make, but at the same time, we're driving leverage hard in the core business.

Alright. Any decision yet or you leaning one direction or another on how you think of the large joint business or the PRECICE part of the Ellipse deal there?

We would tell you the reason we named it Specialized Orthopedics is we intend to be very specialized. And that in the pipeline, the team led by Ed Roschak has a number of great ideas that will follow PRECICE. Big indications, but relatively specialized for the word in terms of the general orthopedic market.

Greg, my question was more of the go-to-market strategy with that, with some of those new products or the current even products, you do that alone? You do that with a partner? Just any insight there?

So that MAGEC technology is all going direct via NuVasive. Obviously, we have strong channel presence there. The PRECICE technologies and subsequent general orthopedic technologies, I think we're going to be open-minded about whether we want to invest and build out specialized channels or partner with some of the bigger players if they can take it into the market with real success.

What we know for sure is we want to be a great design house. This actuation technology I think has a ton of multi-billion dollar potential markets. And again, we're not necessarily wedded to having to build out all of the channel ourselves to go attack them.

Thank you.

Larry Biegelsen, Wells Fargo.

Hi, guys. It's Craig on for Larry. Thanks for taking the questions. Just one, first I want to clarify, did you guys have extra days in the quarter?

No. No extra days. Comparable days year-over-year.

Okay. Thanks and then on Ellipse, I think in the script, you mentioned that you saw your first case where MAGEC was used or Reline was used with the MAGEC. I just wanted to get a sense for the access. Are you getting improved access already from the Ellipse acquisition into surgeons that you previously weren't -- that weren't NuVa surgeons?

The answer is, yes.

Okay. And then, if I could just ask a follow-up on M&A? You cleared up the balance sheet, the Ellipse deal is closed and just wanted to get your thoughts on M&A priorities. Any specific technologies? Are you willing to do a deal of size and would you add any debt to do a deal?

Well as I said in the script, we laid out I hope a fairly clear filter of what we would be interested in relative to M&A: geographic expansion, value-added technologies, elements that expand our services offering to name three. In terms of those other hypothetical questions of adding debt or, I'll add in your question, would we do a dilutive deal, I just want to be very clear, we're going to continue to be extremely disciplined in the deployment of capital.

We have very clear hurdles of what we want on return on investment. I want to be cautious about adding too much debt. Our general philosophy is this is a phenomenal franchise. It's growing very well. And so, we don't have to do anything deal, but we could do good deals that make it an even better franchise. And that's the attitude we approach when we're doing M&A

Okay. Thanks for taking the questions.

Matt Miksic, UBS.

Hey, guys. This is Vic in for Matt. A couple of questions for me. First, going back to Brazil. Can you talk a bit about the revenue's there and if it's just collections that are impacting revenue recognition, or if there's also lower utilization? Can we expect some sort of a bounce back in the remaining quarters of the year? And so, how should we think about the growth on a full-year basis now that the deal is completed?

And secondly, on Ellipse and MAGEC, it's nice to hear that you guys are picking up some incremental hardware revenues. But can you walk through how you think about the opportunity here? Is it initially with screws and then followed by a transition to rods to more conventional fixation systems? And if so, what is the timeline for that process?

Thanks.

So in Brazil, we mentioned the fact that we didn't see any contribution in the first quarter, and that was really due to the fact that we acquired that distributor in the quarter itself. So anything we would have been selling into that distributor that would have been going into their inventory after we acquired them, we would have been reversing it right back out and netting that off against revenues. So, there's really no incremental revenue coming from the Brazilian distributor within the quarter. And we acquired them very late in the quarter, so they had very little opportunity to contribute to our revenue over the last week or so. That they were part of new NuVasive.

Historically, we've talked about Brazil being $1 million to $1.5 million a quarter. That was under a distributor model. As we take them direct, that revenue stream obviously, is going to increase as you now approach the customer directly and cut out the distributor margin, which we'll keep for ourselves. So you can do the math based upon the old run rate and get into a pretty good sense of what that new business would look like.

With respect to Ellipse, the initial contributions that we've talked about and that we've modeled into our guidance are primarily around the MAGEC and PRECICE products themselves. The incremental pull through associated with the screws hasn't necessarily been contemplated in our guidance. That's really further out in our deal models. Getting into 2017 and 2018, is where we would really expect to see some of that incremental benefit, although you heard Greg talk about the fact that we're starting to see some of that early on. But we haven't contemplated that in our guidance at this point in time.

But if you get beyond the MAGEC product, the PRECICE product, the pull through opportunities, it's the opportunity to get into a much bigger adult deformity market that we just haven't played in very aggressively. So this starts to open up doors with relationships that get you into that final fixation procedure, at least on the MAGEC side of things, that we haven't participated in much historically. That's close to what many people have put out there, that $2 billion market opportunity, where NuVasive is that we haven't competed in, and that's where we start to get excited.

Glenn Novarro, RBC Capital Markets.

Hi, good afternoon. A few questions. First for you, Greg.

I was wondering if you can talk a little bit about the competitive dynamics in the United States, especially as it relates to the number one player, Medtronic? The reason I'm asking is, on the last call, Medtronic talked about recapturing share, rebounding. Now, they've been saying this for several quarters. But I'm wondering if you are seeing any of that rebound in the marketplace from Medtronic? And then, I had two quick follow-ups.

I think our results speak for themselves, the difference between rhetoric and reality. And I would maybe add a little bit more color just to simply say, given our growth rates now, we are hiring aggressively. And I'd say the hiring process of bringing people to NuVasive has gotten easier. So hopefully that provides a little color.

That's what we're seeing in the marketplace too.

Two quick follow-ups. One, Quentin, you called out a tough comp in Q2 created by iGA, but I thought iGA was more of a measured launch, and I didn't think it contributed much in the second quarter of last year. So, can you quantify iGA, and do you want to offer any more color around why you mentioned the tough comp for Q2? And then, you acquired your Brazilian distributor; are there other opportunities around the world to acquire distributors? Thanks.

With respect to the iGA and the tough comp, there wasn't an intent there necessarily to point it out. The question was, is there anything that we should be thinking about over the remainder of the year? And all I wanted to highlight was just that in the lumbar business and the cervical business, the growth comps do get more difficult over the remainder of the year. But not anything that creates significant concern for us.

And to your point, iGA was launched sometime around May last year, and really started contribute more in Q3, Q4. However ARCHON was launched back in the beginning of Q1, so you did see significant ramp in growth in Q2 with that product line. I wouldn't say there's anything that we're trying to highlight in terms of concern that we want to create your awareness to, but the question was what's out there that we have to be thinking about. And that was why we mentioned it. And the second question, remind me that question again.

It's just on distributors. So you acquired your Brazilian distributor in Q1. Are there other territories around the world where you can also acquire distributors?

We are direct in the majority of the countries we operate in. There are some smaller distributor markets that we have in Latin America and throughout the Middle East. But generally speaking, those are probably intended to be distributor markets for the long-term.

Brazil was the last large opportunity we had in terms of the size of the distributors we deal with and Brazil was a marketplace that was interesting to us to be direct. In large part, because it opened up the whole public channel of that marketplace that we couldn't compete in. But I wouldn't say there's a whole lot of incremental distributor opportunities at this point in time.

Okay, great. Thank you.

Josh Jennings, Cowen and Company.

Hi, good evening. Thank you.

Quentin, I was just wondering about, you've reiterated operating margin guidance for the year, and I know you're not going to provide out your guidance. But you've spoken about 20% adjusted operating margins when the revenue base reaches $1 billion. You could get there, at least close to that revenue target next year. Can you help us think or any incremental color you can provide about the operating margin expansion directory as we get close to $1 billion in 2017?

At the time that we talked about this, the $1 billion and 20% operating margin was there, it's baked at the end of last year. Our whole goal is to continue to drive that operating margin improvement. We're committed to getting to 20%. As a matter of fact, we're committed to getting to 25% over the time. What we're doing is accelerated growth of that top line at the same time. So, whether it's $1 billion and 20% at the same time, or if it's a year later, here there's going to be right around the same timeframe, but that we haven't given more specific guidance of exactly when 20% hits versus the last time we gave it, which was at our Analyst Day.

What I would tell you is, we talked about 100 basis points of core operating margin improvement per year, we've executed well ahead of that for the last two years. Last year was 400 basis points alone. Q1, the core business was about 330 basis points and we're committed to continuing to drive that kind of discipline in the business. So on a go-forward basis, once we get past this year of integrating NSO, we were pretty clear that you would see the improvement, that 100 basis points we've talked about would actually start to accelerate and become much faster.

NSO's going to help contribute to that. Our in house manufacturing that isn't benefiting us this year will start to do that in 2017. That's on top of the improvements we're already making. So, there's quite a few levers out there that will start to accelerate that 100 basis points a year that you have heard us talk about with something much greater.

Excellent. Just a follow-up question is on the core lumbar performance, clearly very strong in acceleration from Q4. Is it safe to assume that we're seeing a more meaningful contribution from hardware pull through from the iGA launch in this first quarter? And any help even directionally in quantifying the impact of iGA either sequentially or in the quarter, would be helpful. Thanks a lot.

When you're thinking about the contribution from iGA correctly, the hardware pull through that comes from the planning capability and the intraoperative reconciliation is what's driving the results. I would also say that as we get into the specific details with our folks who are managing those product lines, Derrick and Ross both articulate very clearly that the complexity of the cases are increasing as well. What historically might have been an average of two levels per case that we're doing from a posterior perspective, or a fixation perspective, is now moving towards three.

And with that highlights to us is we're getting into more of those complex scoli cases, complex deformity cases, which is what iGA is targeting. So we're very pleased with the progress we're seeing. Clearly, the metrics internally that we're following are indicating we're having success in our strategy. We're not going to get into parsing out the details of the iGA contributions specifically, but clearly you can see that playing through in the lumbar results.

Jonathan Demchick, Morgan Stanley.

Hello, thanks for taking the question.

From looking at the results, clearly it was a very good revenue on margin quarter, but the majority of the benefits on the margin side seem to come more from the asset and sales force efficiency side and less from international margins. So, as international sales growth increases as it appears to have been reflected on the quarter, is the expectation that some of the margin scale benefits, as well as some of the tax benefits, can flow through more in the near-term?

You're thinking about it correctly. I would correct you. In Q1, it wasn't necessarily sales force efficiencies. The headcount efficiencies were really back office driven. More G&A support functions, which is something that we are focused and trying to become more efficient with our processes. So that's where we saw some nice improvements. But not necessarily in the sales force. We're investing heavily in that area and see some nice benefits from it.

With respect to international, with the lower growth in Q1, we didn't see the benefit on the operating margin that we would expect to see as we get into the back part of the year and that growth starts to accelerate and we start to lever that business to a greater extent. But to your point, as that happens, you do see opportunities in the operating margin and tax rate to benefit, as well.

Okay. Very helpful. Just one quick follow-up, bigger picture for Greg.

When we've talked to a lot of device companies talking about the change in hospital customer, we've heard a few lines of thoughts. One is that cross-selling is going to be more broad across segments. Another is that segment depth is going to allow broader agreements within a specialty and if there is that, hospitals are going to continue to be more product by product on the transaction basis, the way it probably has been for some time.

From your commentary, it sounds like you're more of a depth within the specialty camp. So just trying to think of how you see the customer evolving in the timeframe it takes and if you're already seeing customers willing to be more broader purchasers?

Here are the level setting facts about the spine business through the eyes of a hospital. It's one of the key questions I did a little research on before I decided to step off the Board into this role. It turns out, the spine business at a typical US hospital represents somewhere between 15% to 25% of their EBITDA. It is one of the best service lines they have.

The other reality though, is that just because of the complex nature of running a hospital, not all of them can see it. So when I look at that, I'd say it's also a business that's going in the right direction even from there. Demographics will lead to ever more spine surgery. We all want to live a more vibrant vital life. And to the extent we can make spine surgery more approachable, more minimally invasive, more spine surgery gets done. The bottom line is the conditions for a great business through the eyes of a hospital are there today and they're even better tomorrow.

So, at NuVasive, we're going to be laserlike focused on helping them make that a great business for themselves and for us. And I fundamentally believe that focus wins, and will win all day long against other competitors that are trying to do something that is very difficult to do, which is combine economies across service lines and then get something done. I mean I'll take our chances as being a focused company and winning in what is a very good business called spine.

Thank you.

Mike Weinstein, JPMorgan.

Thanks for taking the questions. This is Andrew Hanover in for Mike. I just wanted to touch on Europe for a second. I recall that there was a time when NuVa thought about leading with XLIF in the market, but given that this is much more of a traditional spine surgery community, it was a tough sale at the time. I know that the OUS business had a strong quarter. But Greg, now that NuVa is returning back to strategy, how is this time different?

What you are seeing happened in the international business is procedural selling. And I think XLIF is an example of procedural selling, but we have a lot of procedures now that we're a full line spine company. And so what you're seeing different versus in the past, was in the past, we would just be talking about XLIF primarily and then sometimes getting table scraps called pedical screws.

What you are seeing now though through intensive training, investment is we're talking to clients overseas just like we do in the US, that you have to focus on procedures and procedures will deliver better outcomes. And I think we are just encouraged so far, by what we are seeing in Germany and the UK. But you're also seeing us not getting ahead of ourselves for the year 2016. We think it's going to continue on in a very good way, but we've got seven more quarters to prove that out to ourselves and to our investors.

All right. With that, we will now bring the earnings call to a close. Operator, you can disconnect us. Thank you very much everybody.

This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.