NuVasive Inc (NUVA) 2012 Q2 法說會逐字稿

Greetings and welcome to the NuVasive Inc. second-quarter 2012 earnings release conference call. At this time all participants are in a listen-only mode. A question and answer session will follow the formal presentation.

(Operator Instructions)

As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Patrick Williams, Vice President of Strategy and Investor Relations for NuVasive. Thank you, Mr. Williams. You may begin.

Thanks, operator. Welcome to NuVasive's second-quarter 2012 earnings conference call.

NuVasive's Senior Management on the call today will be Alex Lukianov, Chairman and Chief Executive Officer; Keith Valentine, President and Chief Operating Officer; and Michael Lambert, Executive Vice President and Chief Financial Officer. During our Management comments and our responses to your questions certain items may be discussed which are not based entirely on historical facts.

Any such items should be considered forward-looking statements and involve risks, uncertainties, assumptions, and other factors which if they do not materialize or prove correct to cause NuVasive's results to differ materially from those expressed or implied by such forward-looking statements. These and other risks and uncertainties and more completely described in today's press release and NuVasive's most recent 10-Q and 10-K Forms filed with the Securities and Exchange Commission. Finally, to keep the conference call to a manageable time will be limiting the Q&A to approximately 30 minutes.

With that, I'd like to turn the call over to Alex.

NuVa continues its market share taking execution. We are now halfway through 2012, with a very solid foundation to build on for the balance of the year. Revenue for the second quarter grew 16% year-over-year, and 19% for the first half. We also saw very strong sequential profitability leverage reporting a 16.3% non-GAAP operating margin for the quarter, and 14% for the first half. This translated to a $0.27 non-GAAP EPS this quarter. Our cash generation in the quarter was also outstanding, resulting in our highest free cash flow of all time. I am really pleased with the global execution of our market share taking strategy, and with the strong operating margin and earnings translation.

As I mentioned in our first-quarter earnings call, we continue to focus on executing to annual expectations and our first-half performance gives us confidence to increase both our revenue and profitability guidance for the full year. We are raising full-year revenue guidance by $10 million to approximately $625 million, which implies year-over-year growth of over 15%. We are also raising our non-GAAP operating margin guidance by 50 basis points, and now expect approximately 14.5% for the full-year. Accordingly we are raising our non-GAAP EPS to $0.97.

Execution against these objectives in 2012 will serve as a stepping stone on our path towards becoming the number three global spine player and driving toward $1 billion in revenue with continuously improving profitability. The global spine market, though, continues to be challenged, but we believe it is showing signs of stability. International markets are showing modest growth rates, while the US market continues to see pressure from insurance payer pushback, position on the distributorships, and general uncertainty in the healthcare environment. Our market share taking strategy remains unchanged, and our execution in the first half speaks to this despite the industry challenges.

Our unparalleled focus on products with concrete procedural put solutions that drive better patient outcomes and reduce healthcare costs will continue to deliver growth at multiples to the market. We also continually balance the required investments to further drive market share gains, while delivering on our profitability objective. Our decisions have fueled industry-leading growth since NuVasive went public over eight years ago. Similar to prior earnings calls, I will provide an update on the key investment decisions that will sustain NuVasive's differentiation for years to come, and optimize the increasing value of our enterprise.

First of all, products and services. NuVasive's role as a leader of innovation in spine is mission critical to the continued success of our share taking strategy. By the end of the year, we expect our portfolio to boast over 80 innovative spine products, which address both minimally invasive and traditional procedures.

Our commitment to reinvent our portfolio by developing game changing products also remains unchanged and will position NuVasive ahead of the competition. In the first half of this year, we launched additional indication-specific implants for XLIF sagittal alignment, new lateral fixation options, expansion of MAS TLIF, and the new MaXcess C Retractor for the cervical spine.

Soon we will launch a new posterior approach known as our MAS/PLIF. This will redefine the traditional posterior approach into a less invasive medialized procedure for posterior pathology that requires direct decompression. With our sights set on becoming a $1 billion Company with increasing profitability, you can expect that we will continue to have a solid MIS development pipeline.

With regard to our cervical TDR device known as PCM, we continue to plan for an eventual approval later this year; however, we still do not know exactly when FDA will give us approval. Launch of this device would mark our foray into motion preservation of the cervical spine. As we mentioned on our last call, protracted FDA delays and a less-developed reimbursement landscape for the PCM and similar motion preservation products have severely impacted the addressable size of the market. Nonetheless, it is a very exciting segment of minimally invasive surgery with excellent outcomes.

We have not included, however, any 2012 revenue for this product in our newly raised guidance. We plan to provide updates and general forecasts once we gain clarity on the timing of this launch. As well we continue to work towards US clearance of our synthetic biologic AttraX, but we have no further updates at this point in time. As a reminder, AttraX augments our existing portfolio of biologic solutions which we believe can compete head to head with the industry leader at a more economical price point.

On the monitoring front, we are only three quarters into our acquisition of Impulse Monitoring, which enables NuVasive to offer the most comprehensive neuro monitoring solutions available to hospitals and surgeons. The clinical prowess of the Impulse team continues to demonstrate to surgeons the power of integrated neuro monitoring and the technical superiority of our monitoring solutions. Offering a complete procedural solution to a surgeon is a unique advantage and we are beginning to see the results as monitoring case volumes continue to grow to record levels. We are also starting to see early signs of leverage as the Impulse neuro physiologists learn the NeuroVision M5 platform and the NuVasive hardware salesforce leverages our in-house service capability.

Strategically, the acquisition is rolling out as we hoped, and we remain on track with our expansion plans to add 40 neuro physiologists by the end of this year, many of whom were hired late in the second quarter. The Impulse sales cycle is similar to the adoption of XLIF and NeuroVision, whereby the introduction to NuVasive through monitoring can eventually develop into a deeper relationship across other lines. As the strategic rationale behind the combination plays out, we expect to drive surgeon conversion and accelerate the penetration of both our monitoring service and hardware products.

Our case volumes are growing as planned, while we have also seen a tightening of monitoring reimbursement by some payers, which has led us to slightly trim our US monitoring service revenue estimate by $3 million, to around $42 million for the year. Clinical execution by Impulse has been outstanding for the first half of the year, and we look forward to continued growth in our integrated monitoring platform.

Clinical research is another crucial element of our share taking strategy, and we remain committed to fostering the development of the body of evidence in support of spine fusion. Our efforts continued in Q2 with steady progress on multiple post-market studies covering not only XLIF but also the differentiation and utility of NeuroVision M5, and various procedures and studies such as MAS TLIF. As well as we saw an additional publication demonstrating a 10% plus savings in perioperative charges when comparing XLIF versus ALIF.

Our support of the surgical societies in developing the health technology assessment, or HTA, is also making great strides. The HTA is now complete and we anticipate it will be published within six months. This collection of clinical data will provide evidence in support of spine fusion that surgeons and societies can use in dialogue with insurers.

NuVasive is the leader in its dedication to support the clinical community to publish peer-reviewed data, demonstrating the positive change that our procedures can have on patients' lives. This quarter over 175 surgeons attended our annual meeting for the Society of Lateral Access Surgery or SOLAS. SOLAS is clearly delivering on the society's mandate to advance the knowledge and science of lateral surgery and to facilitate greater surgeon education and collaboration. It is programs like this along with supporting of scientific societies, registries, and clinical databases that will further raise the clinical bar and help advance the best surgical modalities for spine patients.

Our commitment to being absolutely responsive to surgeon customers is another critical differentiator for NuVasive, and another major element of our share taking strategy. This strategy is being replicated internationally and will be a key part of our revenue growth. Our vision is to replicate the success and adoption curve that we have demonstrated in the US. This has required tremendous investment into the development of an absolutely responsiveness culture and dynamic infrastructure in international markets. And it means finding the right top performers to spearhead our new market entries with our vast product portfolio and introduce new surgeons and hospitals overseas to NuVasive's results and high-performance culture.

It also means offering those surgeons the same best-in-class customer service that US surgeons enjoy. We call it cheetah speed and that means having the equipment and inventory on site to meet demand and cultivate long-term relationships with customers. Commitment and execution have driven outstanding international results for the first half, and we are now preparing to enter the Japanese market. This is the second-largest second largest market in the world.

Our infrastructure ramp is in the works and we remain hopeful for a Q4 2012 launch on select products as they clear registration. We will provide further details as we approach commercialization. Our guidance revision today does not assume any incremental revenue from Japan. Our international expansion will be a critical driver of future growth, and after several years of investment, we have reached an exciting inflection point as the scale of our international efforts will finally begin to contribute to profitability.

Before I turn the call over to Michael, I will provide a quick update on our ongoing patent litigation case. The District Court still has not yet determined the royalty rates that will apply during the period of time from the verdict through the appeal. We now anticipate that this may not happen until the fourth quarter or even later. As we reported earlier, the Federal appellate process for Phase I has formerly begun, and we are eager for justice to be served in the long run. As a reminder, the 973 patents pertaining to the lateral implant in dispute expires in two in half years.

Phase II of the case in the District Court is beginning and we expect to start planned construction in Q1 of 2013. This will involve a single patent asserted against us related to our cervical plate line which comprises only about 3% of total revenue. The remaining patents in the case are also cervical and in various stages of administrative review with the US Patent Office and will not be part of this Phase II.

Finally, the oral argument in the appeal of the NeuroVision trademark case occurred in June. This is the last substantive step of the Federal appeals process and we now await a decision hopefully later this year. We remain confident in our ability for a more favorable resolution. For all of these stated legal issues we have taken the steps necessary of securing cash and incorporating the anticipated final financial impacts into our guidance. Now I'm going to turn it over to Michael.

Thank you, Alex and good afternoon, everyone. Our revenue for the second quarter 2012 was $154.4 million, a 16% increase over the second quarter of 2011, and then approximately 9% increase excluding our IOM service revenue. The strength of revenue results in the quarter was broad-based and demonstrated excellent execution within a challenging global spine environment. This brings our results in the first half to an overall growth rate of 19%.

Year-over-year revenue in the second quarter for US lumbar grew about 5%, with year-to-date growth of 8%. US biologics also grew around 5%, and year-to-date was approximately 11%. Global biologic's revenue grew roughly 8.5% to well over $26 million in the quarter. On a year-to-date basis, growth here was nearly 14%. US cervical revenue grew just over 17%, and is up over 19% year-to-date. The services revenue portion of the Impulse monitoring business was $10.2 million.

Finally, international revenue, including its biologic's component, grew over 40% to just over $14 million with year-to-date growth just a bit under 40%. All of this detail is provided for your reference in the supplementary financial information posted on our website in the Investor Relations Section. Overall, we were pleased with our revenue performance in the quarter and for the first half.

Our Q2 2012 GAAP net income was $2.9 million, or earnings per share of $0.06. Excluding an aggregate adjustment of approximately $9.2 million net of tax for the adjustments detailed in our press release, second-quarter non-GAAP earnings were approximately $12 million, or $0.27 per share.

Gross margin in the second quarter was 76.3%, compared to 80.8% in Q2 2011, and 75.7% in Q1 2012. Year-over-year, gross margin was primarily impacted by patent litigation royalty expense which drove roughly 180 basis points of impact, and by the acquisition of Impulse monitoring, which drove about 310 basis points of impact. Hospital pricing pressure was immaterial in the quarter.

Research and development to R&D expenses adjusted to exclude stock-based compensation and acquisition related items totaled $8.7 million in Q2 2012, compared to $9.2 million in Q2 2011, and $9.9 million in Q1 2012. R&D expense as adjusted was 5.6% of revenue for Q2 2012, versus 6.9% in Q2 2011, and 6.5% in Q1 2012. Relative to last year, the decrease in R&D as a percent of revenue was caused by the addition of Impulse revenue, which comes without a heavy R&D component to it, and by the lower spending on clinical trials, FDA approvals, and studies.

PMA related expenses are notably down as we take a wait and see strategy with the FDA approval process on such devices. However, we continue to invest in our product pipelines through five 10-K applicable products.

Sales, marketing, and administrative or SM&A expenses adjusted to exclude stock-based compensation, certain intellectual property litigation expenses, and acquisition related items totaled $84.1 million for Q2 2012, compared to $75.3 million in Q2 2011, and $87.2 million in Q1 2012. SM&A expense as a percent of revenue was 54.5% in Q2 2012, versus 56.6% in Q2 2011, and 57.5% in Q1 2012. The year-over-year decrease in SM&A as a percent of revenue is mostly attributable to the addition of Impulse which has a less intensive SM&A structure than the rest of NuVasive, with the remainder being improved operational efficiency in our distribution area.

On an absolute dollar basis, the year-over-year growth in SM&A expense was primarily attributable to higher spending on variable costs, including additions to headcount and related compensation, continued international expansion, higher set depreciation to fuel growth in our loaner model, and the addition of Impulse. As a result of the above mentioned gross margin, R&D, and SM&A results, our second-quarter non-GAAP operating margin was 16.3%, compared to 17.3% in Q2 2011, and 11.7% in Q1 2012.

Compared to Q2 last year, Q2 2012 results include the impact of both patent litigation royalty expense and the Impulse acquisition. Normalizing for the impact of these two items, Q2 2012 non-GAAP operating margin would have been 18.9%, or 160 basis points of year-over-year improvement, which demonstrates progress on the operating margin front.

From a sequential standpoint, the strong Q2 non-GAAP operating margin was a result of operational efficiencies, timing of certain expenses, and active management of operating expenses. Interest and other expense net totaled $7.3 million in the quarter, compared to $1.7 million in Q2 2011, and $6.2 million in Q1 2012. Included in this total is about $6.8 million of interest expense related to both our old and new convertible notes, with $3.1 million representing the non-cash portion of the new notes, and $3.7 million representing the remainder, the vast majority of which is cash.

For the second quarter, cash provided by operating activities came in at roughly $26 million, leaving us at nearly $66 million year to date. Excluding the refund received from an overpayment made to a taxing authority in Q4 2011, the year-to-date number is almost $55 million. When we adjust that $55 million to exclude capital expenditures so far this year, we have generated nearly $31 million in free cash flow in the first half of 2012. That first-half total already significantly exceeds last year's total for the full year.

We are pleased to see this strong performance given our team's continued focus on improving our cash generation capabilities. We are clearly making progress. Our cash and investments balance at the end of the second quarter was approximately $266 million, which is net of the approximately $113 million, which we recently escrowed for the patent litigation. Normalized for this escrow our ending cash total would have been approximately $379 million, which compares to 2011's ending balance of approximately $342 million, and to last quarter's ending balance of $364 million. We are pleased with the progress in our cash generation relative to both operating and free cash flow.

At the end of Q2 2012, our inventory position was roughly 21% of annualized second-quarter revenue, compared to about 22% at the end of Q2 2011, and roughly 20% at the end of Q1 2012. Day sales outstanding or DSO, when run off of our net AR balance was 50 days in the quarter, compared to 53 days for last year's Q2, and 50 days at the end of Q1 2012. The AR team posted another solid quarter of cash collections, which helped us improve DSO year over year, even in spite of a day's worth of upward DSO pressure due to the outside growth of our international revenues that generally have longer collection cycles.

Now let me turn to our updated guidance for the full year 2012. Please reference the tables in today's press release for additional details. And as I mentioned earlier we have posted supplementary financial information on our website in the Investor Relations Section. The file should be a substantial aid to those of you building models as it has a bridge from GAAP to non-GAAP EPS for quarterly results in 2011, the first and second quarter of 2012, and a view for full-year 2012 guidance.

We are increasing full-year 2012 revenue guidance to approximately $625 million, up from approximately $615 million. As well with half of the year completed we are updating the growth rates for our various revenue components. We now expect US lumbar growth year over year to be approximately 7%, up from 6%, and we expect US biologics growth to be approximately 5%, up from flat growth previously. Our expectation for US cervical growth remains unchanged at approximately 15% and we now expect international growth to be about 40%, up from 35%.

As Alex mentioned, we have seen a decrease in reimbursement rates in the US monitoring service component compared to last year, and despite some rate improvement in the second quarter, we now expect to be around $42 million versus our prior expectation of approximately $45 million. The year-over-year quarterly growth rates in each of these areas may vary a bit as we move through the balance of the year. And as a result, the final revenue contribution of each may also vary. But this is the best estimates we have at this time and we remain focused on delivering to our revised full-year numbers.

Turning to the rest of the P&L, we are increasing our full year non-GAAP operating margin to approximately 14.5%, up from approximately 14%. We now expect full-year 2012 gross margin to be approximately 75.5%, versus our prior guidance of 76%, driven primarily by product mix issues even on the higher revenue. Non-GAAP operating expenses are now expected to be lower at approximately 61% of revenue, versus our prior guidance of 62%. As we think longer-term, we expect R&D expense to eventually increase back toward historical levels, which of course suggests that the main driver of our future profitability improvements will be further SM&A leverage.

In terms of the remaining quarters of 2012, consistent with our history, we anticipate revenue results to be flattish sequentially from Q2 to Q3, with a material ramp up in revenue and corresponding profitability at the end of the year. Accordingly, we expect our non-GAAP operating margin in the third quarter to be noticeably below the approximately 14% results from the first half of 2012 as we see gross margins come off their Q2 level, and as we increase spending in Japan to finish the regulatory process and to buildout infrastructure and create an initial sales and marketing capability in that geography.

As a reminder, non-GAAP operating margin guidance excludes stock-based compensation, certain intellectual property litigation expenses, amortization of intangible assets, and acquisition related items. Full-year 2012 other income and expense is unchanged at approximately $27 million, which will include about $12.5 million in non-cash interest expense. We now anticipate a full-year 2012 GAAP effective tax rate of approximately 55%, down from 60%.

While we generally expect our effective tax rate to improve some each year as we move forward, significant progress will be dependent on international revenues and earnings, to become a more meaningful percentage of our total mix. Non-GAAP adjustments continue to be tax affected at approximately 40%, for the full year 2012.

Diluted shares outstanding for the full year 2012 remain unchanged at approximately 45 million, and finally we now estimate full-year 2012 non-GAAP EPS to be approximately $0.16, and non-GAAP EPS to be approximately $0.97. Non-GAAP EPS guidance for 2012 excludes the full-year impacts of non-cash stock-based compensation of approximately $32 million, down from $34.5 million, certain intellectual property litigation expenses of $2.5 million, amortization of intangible assets of approximately $12 million, acquisition-related items of $1.5 million, and as incurred additional items and non-cash interest expense associated with the convertible notes of approximately $12.5 million.

We feel this non-GAAP EPS measure generally speaking most accurately portrays the operating earnings power of NuVasive, and should be the basis for measuring our progress. The second quarter of 2012 marks another quarter of industry-leading growth, combined with measured improvement in our operating margins, profitability, and cash flow.

Now I'll turn the call back over to Alex for closing comments.

Thank you, Michael.

2012 is off to an excellent start for NuVasive. Our first-half results give us increased confidence to raise and achieve our full-year revenue and profitability guidance for 2012. We continue to make the necessary investments into the sources of NuVasive's differentiation and share taking strategy, which will culminate in sustainable growth and steady improvements in profitability. Our commitment to maintaining NuVasive's innovative prowess to drive superior clinical outcomes and to nurture our absolute responsiveness culture are the drivers of our success to date, and will carry us well beyond $1 billion in revenue.

Importantly, we saw not only great topline growth year to date, but also strong improvements in our profitability profile and record-breaking cash generation. As efforts to reduce our cost of goods sold and streamline our business model continue, and as the scale and scope of our business naturally levers operating costs, we believe we can continue to show strong profitability expansion while still making the necessary investments to expand, diversify, and fuel our market share taking strategy.

I am very, very proud of the entire NuVasive family. We have established NuVasive as one of the top four spine companies in the world with innovative and integrated procedural solutions that address the entire spine. We are in a unique position as the spine market continues its shift toward minimally invasive solutions and we intend to fully capitalize upon it. Our runway has never been longer. As we like to say at NuVa, onward and upward.

We're now ready to take your questions.

(Operator Instructions)

Matt Miksic, Piper Jaffray.

Wanted to ask if you could expand a little about on how some of the new product -- you talked about cervical, you talked a little bit about IOM. Just maybe some of the other products, any color you have on things like Precept, products that are just getting out into the field, products that are out there, forthcoming products that you see as drivers over the next two quarters? And then I have one follow-up.

Matt, it's Michael also. Before we start responding there, Patrick pointed out to me that I said non-GAAP EPS for the GAAP number. So just to clarify for everybody, for new guidance full-year 2012 GAAP EPS we expect to be approximately $0.16 and non-GAAP EPS to be approximately $0.97.

Got it.

So, Matt, really as you know, new products are key to our success. And so what we've seen is, and you know this from our guidance that just changed, which is that we anticipate biologics performing much stronger for the entire year, same with US lumbar, US cervical about the same, and OUS performing even more strongly. So I think just as far as color is concerned, we've talked about how Impulse is doing. It's hitting record levels as far as the number of cases, so that's going well. The overall integration process has gone extremely well, so we expect that to continue to accelerate over time.

Overall, our lumbar business is very healthy. The same with really all of our major segments, so we don't really call out a particular product per se. We don't get into the specifics of one product versus another. And that's because we really think about things in terms of procedural totality and what's involved in conducting an entire case versus one part of it.

Okay. So just to be clear, Precept is fully rolled out, is that correct? It's not still in rollout or is that fully launched?

Precept is still in a limited release mode. And probably will be for at least the next two months as we continue to scale inventory and so forth.

Got it. And then one follow-up just on -- would love to get your perspective on -- heard your comments on the spine market generally. Maybe if you could talk a little bit about the growth dynamics, penetration dynamics related to MIS or lateral access, how you think you're doing within that market holding share, gaining share in that segment, any kind of color there would be helpful. Thanks.

So overall, we see the market in the US as being basically around minus 2% roughly. And so what we are looking at is a market that seems to be bottoming out as far as we're concerned. We continue to see good performance with regard to our lateral uptake. I talked about SOLAS. What I didn't mention in terms of my prepared remarks is that at our SOLAS meeting, we were expecting about 100 surgeons. Instead, we had 175 surgeons come with their nurses and assistants. It was well over 200 people that came to the SOLAS meeting.

I think that speaks very well for the demand of XLIF as well as the demand for advanced training. So I think overall for us, we feel like the market is really sustaining things pretty well. And we expect further stabilization, and we haven't really seen a lot of price pressure. So that has not impacted us I think over the first half of this year. Obviously, that can be a factor in the second half, but we see a lot of stability.

Just to be clear, the general market for spine, down 2% in the US, but stabilizing. Do you have -- you had given some numbers at the beginning of the year around what you think the MIS segment is growing given it's growing faster, it's penetrating the overall market. Any sense of where those numbers are now?

We still think it's somewhere in the, I don't know, call it 10% to 15% range. It's hard for us to measure that without having anybody else's data.

Great. Thank you very much.

Raj Denhoy, Jefferies.

I wonder if I could just ask a little bit of clarity on the growth rates you guys posted? First quarter I think most of us were pretty surprised at how strong the growth was. I think you posted 12% lumbar growth. I know there was an extra day there, but this quarter it was 5%. And I know that's still well in excess of the market but I'm curious if you have any explanation as to why it would have slowed that dramatically?

This is honestly what I'm not going to do, which is to go into a quarter-by-quarter dissection. It is not how we look at our business. So I said we weren't going to do this and I think it's really not the way that we look at things, so we try to annualize our guidance. We look at things in terms of there's obvious fluctuations up and down, and as you know, we've increased guidance pretty dramatically, so we feel like things are very much intact, and our thesis is working when it comes to our market share taking strategy.

So I'm not going get into a quarter-by-quarter dissection of what happened. I'd rather focus on the full-year. Happy to talk about the first half of the year. First half of the year, saw very strong growth, 19% growth for the first half of the year. That's how I look at our business.

No. That's very fair. Maybe I could just segue a bit perhaps into the margins, I think the commentary was that in the next quarter we'd see margins drop fairly significantly. I just wanted to make sure I heard that correctly, below the 14% or so from the first half, but then I guess you would need a pretty big pickup in the fourth quarter. I'm just curious about the dynamics around what's going to drive that margin progression over the back half of the year. I know it's quarterly detail, but perhaps you could just help us out?

Yes. So you'd have to do roughly high 14%s, 15%-ish to get to the full-year number. You'd have to do that op margin in the second half. When you look at the moving parts on the Q3, we do expect gross margin to be lower. There's two things going on there. We've got the new Impulse hires rolling into COGS for the first time.

And as we've talked about, we also have some challenges on the mix so while revenue growth is still strong, international and biologics, which are lower margin areas for us, create some pressure there. I would suggest on the margin side similar to Alex's prior comments a minute ago, we don't over react to any of the quarterly swings because we are managing this thing to an annual full-year number.

On the OpEx side, like last year, in some respects, we are trying to invest a little bit to help enable a strong Q1, so those second-half investments hopefully helping us get off to a strong start at the beginning of 2013. The drivers there are things like the Japan ramp to finish out the regulatory process, and as we mentioned, trying to build initially build a sales and marketing capability and the infrastructure you need there to start off. We're also going to try and make a few investments in sales headcount like we did last year. Then we'll probably have a little bit higher legal spending too.

Okay. Fair enough. Thank you.

Bill Plovanic, Canaccord.

The only question I have, you kind of touched on it, but just on the leverage as we go forward and the free cash flow, this is a big change of years past. Is this pretty much -- would you expect the path forward, can we double the cash flow from the front half of the year and think of terms of we'll start to see these types of improvements going forward? Or should we not extrapolate off of this?

Remember there is lumpiness always to the cash flow profile based on quarters you make interest payments on the debt, quarters where variable comp gets paid, all that sort of stuff. We're not going to get into specifics. At some point, out in the future we'll probably end up providing guidance that way, but we're not ready to do that just yet. I would not take the first half and necessarily multiply it by two, though.

Okay. And just with Japan as you look at the cost and all this and the investment being made, you probably don't want to quantify that, but when can you say that at least you feel that Japan would start becoming a breakeven proposition for you? Thanks.

As far as breakeven, it's going to be really towards the latter part of next year. And as we clear the various product registration requirements that are still in front of us, that hopefully we'll be clearing most of them within the next few months here, then we'll be able to provide some additional color on what the Japan ramp will look like. But until we've completed all of that, we're just not going to get into that. But I can give you a general overview that says probably somewhere in the range of four to six quarters, we'd certainly be where we see breakeven in Japan.

And when you mentioned that you're launching certain products at year-end, are those the most important products at the end of this year? Or how do we think about and when do you expect to have the full entourage product set available?

So essentially where we are right now, is we have NeuroVision has been cleared, so that's a big positive for us. We're in the process of looks like we have a cervical clearance underway, so we have a cervical plate. We have our retractor cleared. We're still waiting to clear out some of our intra-body components, some of our other pedicle screw systems like Armada and so forth, so those are the things that we're waiting for in order to be able to ramp.

As you know, you don't want to show up at an account with a spoon when everybody else is using a knife and a fork. So we want to make sure that we've got everything we need in order to be able to effectively compete in that market. But we do expect all of that to happen here in the very near future. And when that happens, we'll provide some additional color on what it looks like over the next two years.

Great. Thanks.

Richard Newitter, Leerink Swann.

I was hoping we could just drill down a little bit more on some of the top-line growth changes to your guidance. On the neuromonitoring side, sorry on Impulse Monitoring, if you could just talk a little bit more about what reimbursement issues you were seeing, I think you said that they resolved in 2Q, what exactly is that and how that affected the business? And then on your OUS increase to growth, if that doesn't include Japan, just curious what's giving you more confidence there, is something happening in Europe? Is it just sales reps starting to get -- gain traction?

So we've had very strong OUS performance in all of our markets. Europe has actually fared pretty well. Same with Asia-Pacific and Latin America. So I think that's unlike what we saw last year. We're still cautious when it comes to Europe, but it's done well. So I think overall, things have gone very well, and as a result, we've increased our guidance.

With regard to Impulse in the first quarter, as we are working through that what we saw was a bit of a payer pushback and it was not all the payers, it was just really -- it varies quite widely from state to state, but we saw a little bit of a downtick in some of the reimbursement. We saw a recovery of that in the second quarter and I think that had to do with also just having a broader swath of business and more payers, which offset a little bit of that softness.

So we feel like we're in good shape, and we've done the kind of hiring that we want to get done, so most of that is on track. And so we'll finish the year with somewhere around 200 neuro physiologists, and that will also drive the revenue in the second half and well into '13.

And if I could just ask on biologics, what's changed there? I know heading into the year, you were much more cautious on Osteocel. Last quarter you did better than expected, and now you're increasing your guidance. Can you talk about what's happening in that part of the business?

Sure. One of the things that we've talked about for quite a while is that there's really been a requirement of more clinical data. And we've started to see now parts of that clinical data make it into the marketplace, so there have been several studies that are favorable to Osteocel. One in general orthopedic application, which is not one that we are pursuing, but nonetheless speaks well to bone fusion. And another one in a spine application with very strong results. So I think that's part of it. But we've gone from effectively 0% to 5% guidance on biologics. And feel very good about our ability to continue to leverage and grow that.

Robert Hopkins, Bank of America Merrill Lynch.

Alex, I realize you want to get away from the quarterly stuff, which I appreciate, but just generally on the market, in terms of the tone and things you're seeing in the market, Q1 to Q2, is there any difference you think in terms of anything going on in the US spine market that's worth calling out?

No. We really don't see a difference.

Okay.

Very consistent.

Okay. And then as far as your business is concerned, anything in the quarter that you think was one-time in nature good or bad in the quarter in terms of the difference between Q2 and Q1?

We talked about Impulse. And some of the pushback there. Outside of that, that's really it. We are taking all of our numbers up with the exception of Impulse, which is just slightly taking it down by $3 million.

And then -- Bob, if your question was around stocking orders or capital equipment orders or anything like that of course, we monitor those things and if you look back at the horizon quarterly for the last two years, no difference really as percentage of revenue on that side either.

Okay. And lastly real quickly, I want to ask a question about the medical device tax. And get your updated thoughts on the magnitude of the tax and your ability to offset it. Obviously, this year you're talking about underlying operating margin expansion of roughly 100 basis points. And so I'm just curious as we look forward, just any comments updating us on the medical device tax and your ability to offset would be helpful.

I think at this point we don't have really much to offer with regard to how we see ourselves offsetting it. We know that it's going to be anticipated as something roughly on the order of $14 million next year. So we're still working through that trying to understand what we can do in terms of peeling out service, meaning monitoring and Impulse from that. We believe that will be -- that's feasible and likely.

So we're still working through that and what we're going to do to mitigate it, we obviously have a number of things that we're planning to do that you can see for example in our improved profitability for next year. So we're going to be delevering down SM&A even harder as we continue to go forward, so we're going to do other things that will help us to improve our bottom line. I can't really quantify it for you. At this point in time, and I'm still really hopeful that things will happen in such a way that will go away, but we won't know that until I think it's November 6.

And, Bob, it's Michael. The final regs on that thing are still not going to be published really until the fall some time. And I know there's a little bit of jockeying and horse trading at least from what we heard about how definitionally about how it all still may fall out. And that definitional question may or may not help or hurt people like ourselves avoid some of the tax or potentially end up paying more. Still a TBD.

Thanks, guys.

Larry Biegelsen, Wells Fargo.

Alex, should we read anything into the ruling on the ongoing royalties being pushed out or why have they been pushed out?

Yes. The judge's discretion. So it's just her work flow and what she's chosen to focus on, and how she's going to go about it. So it's not something that we can really control as far as the calendar.

On Osteocel, I think Orthofix is saying that Trinity's growing a lot faster. Any reason -- why do you think one is growing so much faster than the other? And then I have just one follow-up.

Because they apply it beyond spine. So certainly, whatever -- I don't know exactly how they're doing in spine. Other than what you guys published. So -- but clearly they have an orthopedic business and a trauma business. And so they apply it in those applications. We don't do that. That's a very small, very tiny part of the utilization of Osteocel for us.

Okay. And I realized -- I understand you want to get away from the quarterly guidance, but --

That would be correct, yes.

The growth rate decelerated organically to about 9% this quarter from 14% last quarter. And the full-year guidance assumes it's about 9% organic, in the third and fourth quarter. I guess I'm trying to ask, what gives you confidence that we won't see a further deceleration in the second half of the year? Thanks.

We expect to execute to what we've guided towards based upon all of the resources that we've put to play. So I think it's tied to a strong first half for us in terms of our growth prospects. And so we feel it's very attainable. We don't have any doubts or trepidation about our ability to achieve guidance.

Thank you.

John Putnam, Capstone Investments.

Alex, I wanted to ask about the tax as well, but I think you've handled that and I thought that the editorial that you wrote in the San Diego paper was excellent. And I applaud you for that. And I'll let someone else ask a question. Thanks.

Thanks very much. I appreciate that. Going to keep fighting it too. Far from over.

Chris Pasquale, JPMorgan.

I just want -- one quick follow-up on the tax subject. Is it your expectation that your neuromonitoring sales will be subject to tax? I would have thought there was at least a chance that those could be exempt.

That's what I said. I said we thought that monitoring would be excluded.

Okay. All right. And then one maybe more of a strategy question for international, how transferable do you think the absolute responsiveness approach really is, Alex, as you move into international markets? This may not apply as much to Japan, but in a lot of those OUS markets, particularly the emerging ones, we see companies operating under less intensive service models to make up for lower ASPs, things like that.

Yes. And that's always a challenge when you're working with distributors. Clearly, the markets that we've chosen to go direct in, they bleed purple and they run like cheetahs. And so we've been very pleased to see how they're going about cultivating the business in those markets. Australia's a great example. Same as the UK. Same as Germany, Puerto Rico, Singapore, Malaysia, and soon to come, Japan.

So the main markets outside the United States are the ones that we chose to go direct in. And that's really where we will stake our reputation for service and responsiveness. I have to say, though, we also have quite a few distributors, though, that really enjoy the culture and buy into the culture and practice the culture. So yes, it's more challenging, but I have to tell you that they're on board. And we make sure that we hire the kind of folks that remain on board with the way that we do things.

Thanks.

One comment to add to that, we have sales meetings throughout the year, and the international distributors often do not invest in sending people to those meetings because of the cost. And we don't see that. We see their participation. We see them wanting to invest in the training, wanting to invest in what the new products are. And that's something unlike what we have seen in our past lives. And so I think that's a testament not only to absolute responsiveness but also those distributors embracing the culture and wanting to expand it.

That's a great point that Keith made. And in fact, what comes to mind is our distributor in Brazil who has really been rapidly increasing market share and doing it through the utilization of our culture exactly to Keith's point.

Glenn Navarro, RBC Capital Markets.

First question, wanted to clarify on pricing, you said that pricing was not material. In the past you said pricing was down low-single digits, so are you saying pricing a year ago was down low-single digits and this year down low-single digits, so no material change?

That's right, Glenn.

Okay. And then just on the payer pushback dynamic, in the past you said it's still happening but seems to be leveling off or at least not as bad. Any update or color that you can provide? Thanks.

I think that's accurate, Glenn. I think it's the surgeons are adjusting to that. It's certainly still out there. And I think that the surgeons have really figured out which tools to use in order to be able to repeal and to be able to be successful with regard to getting that case on. So as I've talked about before, I think what we've seen are longer lead times in many cases, but it's really factored into the market now. So it takes longer in a lot of situations to get a case on. I think we are really beyond that lag time now.

So just one other follow-up, if the payer pushback is starting to stabilize and not get much worse, what drives the spine market to start getting better? Is it more the macro in your opinion, the economy?

I think the economy plays a role. I think, though, there's going to be -- I think a lot of this has to do with what happens to -- what's known as Obamacare, right? And what continues to be implemented over the next two years. That clearly, we believe that's connected to payer pushback. So if that continue to go, which of course is what we all anticipate will happen outside of a change in Congress, then I guess that's probably going to be much more of an issue.

If not, there may be some significant changes coming relative to reimbursement. But clearly, it's going to still be focused more on outcomes, it's going to be focused on the need for data, so there's going to be an ongoing process of pushback no matter what happens over the next several years. And a reliance on more and more clinical effectiveness data. That's why we have put so much in the way of resources to work here, and have made sure that we have everything we need in terms of faster, better, cheaper. And that's obviously the big play with minimally invasive surgery.

Okay. Thank you.

Matthew Taylor, Barclays Capital.

I just wanted to ask one on the trademark litigation. You talked about expectations for a more favorable result and you're not reserving for it. Can you elaborate on that at all without giving away your strategy, I guess?

What do you mean we're not reserving for it? We've put the cash -- we've basically gone through that process. I guess we can clarify that for you, but the cash has been restricted now for quite some time.

Yes. We just haven't taken an income statement or a P&L hit for it. And the reason is we think the odds of reversal are probable.

Got it. That's what I was referring to. And then I just wanted to ask about the publication of the HTA. Where could we expect that to be published, and can you give us some color as to how you and the societies are going to use that and promote that once it is published?

Yes. I really want to be able to tell you who and where, but I can't simply because I'm not at liberty to. It's still in the process of making its way into the literature, so I am aware of the status of it, but I'm not allowed to disclose it. What I think it's going to do, though is I think it's going to provide a very important paper, which will really be then, put together in the form of an HTA, so this is really a paper that is a definitive overview of the outcomes of fusion in the lumbar spine. And it's a very exhaustive review of the literature.

And so what that facilitates then is the preparation of what we're calling the HTA. And the HTA is really a format that is then taken in to the payers and allows societies in total, surgeons, individually, companies for that matter to be able to come in and deal with payers directly and say, here's the data. You're not in a position to pushback, and here's why.

So this has really not been done heretofore in spine. There are certainly many literature reviews that have been done and there's all sorts of data that's been out there, and I think that's one of the reasons why we are not seeing the entire payer pushback continue to gain more legs than it has. And that's because the outcomes are so good in so many of the -- in all of the procedures.

So I think that's how it's going to be utilized. And we hope to see this thing in print here within six months. Certainly as soon as it can be -- we can formally tell you what it is, we will. We're just not in position to do so.

Okay. Thanks a lot.

David Roman, Goldman Sachs.

Alex, I was hoping you could talk a little bit about how some of the integration efforts are going on Impulse. And I guess specifically what I'm asking is, I believe at the time of the transaction one of the benefits you had talked about was the potential to cross pollinate the service business with your lateral approach business, and that many of the hospitals where Impulse had a presence you did not have an XLIF presence and vice versa. How is that tracking relative to your initial expectations? And then any impact that the reimbursement dialogue that you brought up has had on that?

So that's still very much in its infancy. We've seen the beginnings of that. And I believe I mentioned that in my prepared remarks. So that's really what we expect to see start to happen over the course of the next 6 to 12 months, is that integration process to take root.

That would really be more on the eastern or on the eastern half of the United States. And that's really where Impulse is right now until we continue to get the footprint to be larger. We obviously are having that impact in various pockets outside of the East Coast, but that's really what's driving it at this point in time is just really the increase of the footprint and then we'll start to see a lot more of the integration.

Okay. And then I think in the response to a previous question you indicated that you thought MIS penetration was in the 10% to 15% range and you have a slide that you used --

Growth.

Growth. Sorry. So I think you said it was driven in the 15% range at recent investor presentations and that's up from like 10% five years ago or so. And you sort of expect it to go I think in the vast majority of the market over time. It seems like we've been stalled in this 15% range. What's the next catalyst to get it moving much higher because the clinical argument seems straightforward, why haven't we've seen more of a commercial uptake and what gets it moving higher again?

So it's hard for us to gauge outside of our own performance really what's happening out there in terms of our competitors, so we can only estimate exactly where things are at. We believe that somewhere around probably 22%, maybe it's a little bit higher now, 23% of the market is minimally invasive. And so we said before that it was 20%. We think that's starting to increase.

I think what you're seeing with all of the noise in laterals, I think we are starting to see certainly much more of an uptick and a focus, and we saw that with our own SOLAS meeting. We're seeing that with more and more advanced applications. So these things fortunately or unfortunately, I guess, they take time before they really penetrate into the teaching centers. And still most of the folks that are coming out of fellowships are being taught to do big open procedures. And so they've got to come to places like NuVasive in order to be trained and then to go forward from there. So we feel like things are going pretty well. They'd probably be going even faster if it wasn't for the overall environment that we're in economically and some of the pushback that's happening on the broad level. I think if it wasn't for that it would probably be picking up even more steam.

But what's confounding to us and I'm sure to you is that the value proposition is so strong that you think the hospitals would be all over it. In many cases, they are. I do think probably the silver lining of what's happening with healthcare reform is that hospitals are going to be pushing even more for outstanding results, faster, better, cheaper. And so I think that kind of works right into the sweet spot of what they're going to be looking for.

So I think over time we'll continue to see it grow and I think it's going to be still in that 10% to 15% range. There's no reason to change the forecast for that for the really conceivable future.

Great. That's very helpful. Thank you.

Josh Jennings, Cowan and Company.

This is Dennis Kelleher in for Josh. Just a question on the lumber lumbar fusion reimbursement front. The American Association of Neurological Surgeons responded in June to the Blue Cross Blue Shield of Illinois regarding the restrictiveness of its lumbar fusion reimbursement proposal. Have you heard any updates on whether or not the proposal will be modified? And have you heard of other proposed revisions in the works that you're aware of? And I just have one follow-up question. Thanks.

No. We've not heard anything with regard to whether or not it's going to go into effect. Our suspicion is that there's not going to be a major change. So that's the latest that we know.

Great. Thanks. And second question is just along the same lines, prepayment audit programs for spinal fusion, DRG codes have been put in place in Florida by First Coast and in the midwest by Trailblazer. You guys heard if these programs are impacting your customers at all? Thanks for all the color.

We've not (multiple speakers) -- we have not.

Okay. Great. Thanks.

Matt O'Brien, William Blair.

On the R&D side, and Michael I understand that Impulse doesn't necessarily have the level of R&D spending as the other parts of the business, but when you net out Impulse for the quarter, R&D as a percentage of revenue is about a little under 6.5%. That metric's been trending lower in recent years. And I'm just curious, your thoughts on the opportunity for more revolutionary type products within the spine industry going forward, is this -- does that metric indicative of your outlook there or, I guess how vehemently do you disagree with that statement?

Well, as I mentioned I think in my prepared remarks, we do expect that R&D percentage to tick back up towards historical levels over time. I think you've got two things going on. You've got some clinical trials ended, Neodisc slowing down or ending, XL TDR, and then as we talked about, our PMA related spend is down as we continue to take a bit of a wait and see attitude towards what is happening at the FDA. But we're continuing to fund the 510(k) related products, and that's still continuing to feed certainly a strong pipeline, if you look at some of the recent announcements. Alex, do you want to add anything or Keith?

I think there's a couple things to bear in mind is that I think what Michael just talked about certainly has slowed down our burn with regard to R&D and the lack of certainly the PMAs. And I can tell you that as a company right now, we are relatively risk averse when it comes to starting PMAs in the FDA environment that we see today. There's a number of changes in the works. And so hopefully as those come through, I think we probably might consider going down that path again, but it's been a very protracted process for us with PCM. For example, for the last three years, and we believe we're going to get through that, but we want to get one under our belts, so that we could really move forward.

As far as game changers are concerned, I do want to point out that a lot of game changers can still come to market through the 510(k) process. It's no different than how XLIF came to the market. It's all done through a 510(k). Same with the various products that we're talking about for posterior fixation, whether it's MAS PLIF which is about to be launched MAS TLIF. The same thing with Precept, which we think is a real game changing type of product.

So we think that there's a lot of things that can still happen through that process. And I think as Michael pointed out, we do expect to see R&D spending increase as we move into subsequent time frames and especially as we move into '13.

I think you need to focus too that the new product introductions that Alex just mentioned are all around a procedure. And so it's not just a pedicle screw system. We're also making significant investments and R&D work being done for retraction systems, for example, that are focused on a particular technique and really drive the entire procedure.

So the fact that we're moving away from the PMA process because of the uncertainty, and not to mention you get certain devices even into those studies, it's tough sometimes to figure out what the reimbursement pathway is afterwards, as well, whereas what we're spending our R&D dollars on are very clear reimbursed procedures. And those reimbursed procedures are driven to a procedural level.

I appreciate the color. I apologize. I've been hopping between calls and I missed that in the prepared comments.

Alex if I could just one more big picture question for you, the game plan that you've had in terms of taking market share within the spine market has worked out quite well. It's a large market. I'm just curious, how sustainable do you think it is, not only as you get larger, but just in terms of when you may see some sort of aggressive competitor responses? Or is it something you've seen in the past from a pricing perspective, maybe in two markets here or there to really try to slowdown you taking share within this market? And then is it more on just the traditional side of the market in terms of more penetration of existing accounts or is it more new product flow that helps you continue to take the market share?

I think our strategy is clearly sustainable. We believe that it will take us to well over $1 billion in revenue. I think that we've put together what we believe are the right ingredients and the right way to go about building things. We also do react to what's happening in the marketplace. And we do make adjustments. But honestly we spend most of our time leading versus following. So we don't really sit there and think about what everybody else is going to do. That's why we're completely redoing posterior fixation. We're really coming up with new ways of doing things. And I think that the surgeons know that our products really are game changing.

When you combine that with a robust culture, with a big focus on execution and results, there's no reason to believe that we won't continue to take share and to do that for as long as we continue to employ that strategy, which is what we're running with for many years to come. So obviously, there's people that will try to undercut and I think if you go back even 1.5 years ago, there were probably, what, 8 or 10 companies that went out there with lateral solutions. And there was a lots of discussion amongst analysts about trialing and what was going on and, clearly, that was taking place.

And I think here we are, with a 19% topline start to 2012, in what is still a very challenged environment. And I think that speaks to the strength of our products and the strength of our programs. And when surgeons see that, they tend to stick with that and they tend to migrate towards that. So I'm very confident in our strategy and the way that we're doing things and its sustainability.

Thank you.

Joanne Wuensch, BMO Capital Markets.

This is Jake Messina in for Joanne Wuensch. Thanks for squeezing us in. Just had a question on the sales force expansion. I think in the fourth quarter you said you were just over 300 or so. And I was really wondering if the expansion has had any impact in the new flow of hires on growth over the last two quarters?

The expansion, most of it took place as we talked about in the fourth quarter. We continued to hire on a sort of typical rate, so no, it's not -- we have not accelerated the hiring process. So we're running to our normal hiring process for 2012.

And on IOM I believe you said there were a few regions that cut reimbursement. Was that correct?

Payers. There was just really -- it was more payer specific versus across the board.

And is that a reversion to the mean? Or is it something where you might see continued pressure?

I think we're going to see some ongoing pressure. But it varies quite a bit from payer to payer and from state to state. And I think as we've increased our footprint, it's allowed us to mitigate really, that impact. So I think that we've been able to deal with that effectively and we'll see how things look when we get to '13. And what our forecast looks like towards the latter part of this year or really as we give guidance for next year.

Great. And lastly if I could very quickly, I think it was about $400,000 in the first-quarter for IOM that you called out, is that about the same thing in second quarter '11?

Repeat the question -- Not sure what you're asking.

Sorry for last year, for IOM sales, you called out about $400,000 in the first quarter of '11, and I was wondering if it was about the same amount in the second quarter of '11. When you filed the 10-Q it had the detail for IOM sales, before the acquisition of course.

Yes. So that would have related to a small acquisition we made, Sandia. We've now rolled in Impulse and Sandia together, which is why you can't -- you can't separate them easily. So that's all that related to. It didn't relate to Impulse per se. But it related to the Sandia acquisition.

Right. Sorry. I was just trying to clarify if that was the correct amount for the Sandia in the last year.

That's all it would be. And those numbers will show up in the 10-Q.

Thank you very much.

They'll have visibility too.

Okay.

Michael Matson, Mizuho securities.

I guess I just was wondering with regard to the physician on distributors, do you think that those -- obviously they're growing rapidly. Do you think that's hurt your growth rate at all, or is it really more of an issue for the legacy companies like Medtronic? And to the degree that those were to go away, would that help you guys out at all?

And I apologize, I missed the very first part of your question.

Sorry. PODs.

And -- sorry. Would you just repeat the question? That would probably be easier.

Yes. So with regard to the PODs, do you think that the PODs have affected your growth rate, or is it more of an issue for the bigger legacy companies like Medtronic? And I guess conversely, if the PODs were to go away, would that then help you guys in terms of your growth rate?

Yes and yes. I think it's affected the entire market. They've proliferated like mushrooms around the United States. So I think there's no question it's affecting everybody's growth rate.

Yes. I would say also that the companies that have the larger market share in traditional products are impacted higher. We are all impacted, but those with the most traditional business are the ones that I think were seeing the highest impact.

Okay. And then my second question would just be on the XL TDR, I know you mentioned it in an earlier question but I just wanted a quick update on that. Is that something where it sounds like the study's completed and you are still planning to go to the FDA with that or not?

The enrollment is effectively done. So there's still a lot of work to be done in terms of getting that ready for a PMA and putting everything else together, so we don't have any other updates on that. As I'm sure you're aware, by the time you go from enrollment to two-year follow-up to putting together a PMA, it's still several years away.

But at this point, your comments around PMAs and FDA, that wouldn't apply to this product, assuming that it met the endpoint et cetera and the data is good, right?

Right.

Okay. Thanks.

Spencer Nam, ThinkEquity.

I'll have two quick questions here. Maybe start with guidance just quickly. I know you guys last quarter, you were a little hesitant to make any definitive statements about the outlook. You guys were feeling confident but you wanted to wait and see how things play out. I was wondering whether, as part of your planning process, you actually had the trajectory that resulted in current -- the new guidance versus the previous guidance, or that over the last three months plus that you guys started seeing some improvements in fundamentals that compelled you guys to raise the outlook for the rest of the year.

So you want to know exactly how we think about this, huh?

I'm just trying to figure out whether -- (multiple speakers)

I understand. I'm just teasing. I understand. I think as we look at the way things have gone, clearly we were hoping for the trajectory that we're seeing now. But our position has been to be conservative as we started the year in particular. And to make sure that we guided to annual performance. We did not feel it was appropriate after one quarter to make an adjustment to our guidance.

I would not anticipate that we would make an adjustment to our guidance after the third quarter necessarily either. And this may be our only adjustment to guidance for the year. And I think that has a lot to do with how we posture relative to an annual look at our business. So I think your insight is probably correct in terms of how you think about this, but I hope you appreciate that what I'm trying to do is to get away from the quarterly knee-jerk analysis of what happens in spine when you really have to take a broader view of how things really play out.

That's very helpful. Appreciate that. And then a quick follow-up on competitive fund, do you guys have specific players or a group of players that you are taking share away from, or is it just across the board against all your competitors in the space? I recognize it's getting a little bit crowded right now, but I was wondering if you guys have particular set of competition that you feel very comfortable with versus, say, two years ago when things were a little more challenging at times?

Well, there's companies that we most enjoy taking market share from. But I think it happens across the board. So clearly, we compete with -- we are a top four spine company. And so I think we're going after the lion's share of what's out there. And so we're very effectively gaining market share from all the players.

Great. Thanks.

Jeff Johnson, Robert W Baird.

Two quick ones. Just at the end here, but so, Alex as I look at your guidance and Larry kind of brought this up before, but 9% constant currency organic growth this quarter, it seems like you're second-half guidance implies 9%. Is that how we should be thinking about your base business at this point, and then if you get Japan or PCM or anything, maybe hire some new sales reps in fourth quarter as you're talking about, maybe getting acceleration off that 9%, but the base kind of 9% at this point?

Yes. I think that's about right.

Okay. And then just on the self manufacturing front, I know you've had some success. I'm blanking on the name of the manufacturer you acquired in Ohio, but feedback on that sounds like it's been pretty good here over the last two quarters. How do you think about that opportunity as you go forward over the next maybe 6 to 12 months versus two years?

Yes. And that's something that we are still in the process of really acquiring. So we have rights to that. And we've got a very strong position there. So we've not formally concluded that process. What we've talked about is a transition towards doing more manufacturing in Ohio. So that's still in the works.

That would be formalized by the latter part of the year, and really for '13. But it's allowing us to reduce COGS. We expect to get more leverage out of it in '13, '14 and beyond, and we're going to continue to look at additional manufacturing sources and additional ways of decreasing our COGS.

Can you remind us --

You should think about it as an investment. It's not as Alex mentioned, just to be clear, not outright ownership at this stage.

Fair enough.

And the thinking on it at the time was we wanted to put our foot in the water and start to learn the process. And we've been working with that company now for the better part of 12 going on 18 months. And it's been a good thing for the NuVa side to actually pick up and learn, how do we run a manufacturing business from the ground up?

Michael, can you remind us what percentage maybe of products today are self manufactured, where you think that might go over the next few years?

It's a small amount today. I don't have the exact percentage.

All right. Thanks, guys.

There are no further questions. I'd like to turn the call back over to Management for closing comments.

Well, thank you, everybody. It's been fun chatting with you, and sharing with you our first-half perspectives. And we'll look forward to talking to you again in a quarter. Thanks for your time. Bye.

Ladies and gentlemen, this does conclude today's teleconference. Thank you for your participation. You may disconnect your lines at this time and have a wonderful day.