瑞思邁 (RMD) 2008 Q3 法說會逐字稿

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  • Operator

  • Good day, ladies and gentlemen. And welcome to the third quarter 2008 ResMed earnings conference call. My name is Angela and I will be your coordinator for today. At this time all participants are in a listen-only mode. Later, we will conduct a question and answer session. (OPERATOR INSTRUCTIONS) Before we begin the company has asked me to address certain matters. First, ResMed does not authorize the recording of any portion of this conference call for any purpose. Second, during the conference call, ResMed may make forward-looking statements such as projections of future revenue or earnings, new product development, or new markets for the company's products. These statements are made under the Safe Harbor provision of the Private Securities Litigation Reform Act of 1995. Risks and uncertainties exist that could cause actual results to materially differ from the forward-looking statements. These factors are discussed in ResMed's SEC filings such as forms 10Q, and 10K, which you may access through the company's website at www.resmed.com. With that said, I would like to turn the call over to Kieran Gallahue, ResMed's President and CEO. Mr. Gallahue, please go ahead, sir.

  • Kieran Gallahue - President, CEO

  • Thank you, Angela. And welcome all of to you ResMed's Q3, 2008 conference call. I am going to start the call today with some remarks. And then I will pass the ball over to Brett Sandercock, our Chief Financial Officer, and he will review the results in more detail. Then we will come back and open it up for Q&A.

  • Well, Q3 was our 52nd quarter of consecutive growth. And it was a strong quarter for us as we grew our revenues by 16% on a global basis. And we grew our earnings per share by 12% on a global basis as well as generating over $33 million in cash flow from operations. In particular this was a great quarter to reinforce the strategy of ResMed of globalization. Right from the beginning of this company, we've focused on two things, innovation and internationalization. And this was a great quarter to reap some of the rewards of that as we saw the international business contributing significantly to our growth in the quarter.

  • All right. Let me take a step back for a minute and review some of the results. From a product perspective, masks were up 21% on a global basis. That mask growth was supported by not only existing products but also the introduction of a new product in the product category. We introduced the Mirage Micro nasal mask. It's the first major release of a technology into that work horse nasal mask portion of the business in the last four years. It came in partly through the quarter. It has been received very well through the market place and it is just a great product. It helps in set up. It took a lot of the advantages we saw in the Mirage Quattro full face mask, integrated them to the nasal platform and we're getting similar reviews that we got out of the Quattro indicating the ease of use and set up and efficacy of the product are absolutely fabulous, so we're very pleased with the early days of the Mirage Micro. Full face mask continue to be strong performers for us, particularly the mirage Quattro product in the high end of the full face mask line. So a very strong and productive category for us.

  • Nasal pillows was a bit more of a mixed category for us. We continue to have the Swift II product line which has performed very well and continues to have a large share. In fact the vast majority of the share of the nasal pillows market place. We have seen some competitive pressures in that in the last couple of quarters, they continued in this quarter. The good news on that, by the way, is that within the next week, at Medtrade, we will be launching a new product into the nasal pillows category, it's a product called the Swift LT. And we're going to introduce it as an adjunct. Not a replacement for the Swift II but it has enough new feature sets and differentiated enough that it deserves its own place in the product category. So moving forward we will have both those products, the Swift II and the Swift LT in the nasal pillows category and we're looking for strong success out of that product line.

  • Alright. Let me move over to the flow generators. Flow generators on a global basis were up 11%. And this was an area wherein particular we had certain line items that really performed well. As an example in the bilevel range we have our VPAP series. And we introduced something called the VPAP Auto midway through the last quarter. And again, this product came out of the gates very strongly, we're very encouraged by the early days of the launch. And look forward to strong days ahead with the VPAP Auto. A key element of the VPAP Auto is that it merges a couple of technologies. On one side it brings in the auto setting algorithms that we have used in the APAP line for year. The market leading preemptive very efficacious product category or algorithms used in the AutoSet APAP line but it has also integrated something you will be hearing a lot more about which is the Easy-Breathe technology. And the Easy-Breathe technology is really a product category or platform under which we have both wave forms that are intended to improve patient compliance and improve the efficacy of treatment as well as a new motor which is -- that brings substantial value to the product line. In fact it was the basis of the very successful S8II product line that we launched in the international markets.

  • The Easy-Breathe technology is a double ended motor, that allows us to improve performance and it vastly, vastly decreases the noise. We have got a saying here that silence is compliance, and it is because it is so important in order to reduce noise levels for both the patient and for the bed partner. Now this is an example of where we're bringing that technology to bear in the bilevel. So good early days on that. On the higher end flow generator such as the AutoSet line we continue to do well. And what we believe is a share gain position in the high end of the market place. And very importantly, and very -- from a very exciting point from our view, is as we speak, we're launching new products in the Americas, into that category. So we're launching the S8II Vantage and the S8II Elite. The market overall will see it next week at Medtrade. It uses again that basic Easy-Breathe technology platform both the wave forms as well as the very silent and high performance Easy-Breathe motor. So we're very excited about that. It has been a successful launch that we launched several months ago in international markets and it is part of the contribution to our significant growth in those international markets.

  • Lower end flow generators a bit more of a mixed bag there. What we have been finding is that a certain feature set and particularly that feature set is expiratory pressure release where you have that up and down of the pressure in order to improve comfort and therefore compliance among patients. We have seen that there has been significant growth of that feature set in the low end. It is not a feature set that we have had and as a result we have had some competitive pressures in that end of our product line. Good news here is that we will be releasing a product. We're going to call it the S8II Escape with Easy-Breathe technology. All right? And with EPR, with expiratory pressure relief. That will be launched later in quarter. Not at Medtrade but will be released later this quarter and will be begin shipping before the end of the quarter. So not material impact in this quarter but great news as we move forward in plugging a hole that we had in the product line that will allow us to be more competitive.

  • Alright. Let me take a step back for just a moment and talk about the market overall. I would like to address two areas. One is comorbidities and the other is home testing. Just to set the tone for the market as we move forward This last quarter was actually very interesting and very encouraging quarter from a comorbidities perspective. In particular in the area of diabetes and the overlap between type two diabetes and sleep disordered breathing. There were several papers that were published in peer review journals that I think were important to this. One in particular was [van coderol] and "Chess," that was released I believe in February. And it was a review article looking at the literature that associated and that determined the overlap between sleep disordered breathing and type two diabetes.

  • What was really interesting about this is that it was a crossover that was -- it was published in this clinical literature but you saw very soon thereafter that there was pick up in the more general press. And that's always an important aspect for us as we look to move from the clinical silos to the more general awareness and speaks we will for future market expansion. In particular I -- many of you may have seen the '60 Minutes' segments several weeks ago where they actually had two segments that featured two of the authors on that paper, Edward [Tosoli] and Eva [Van Quarter], and they were only sleeping fragmentation and deprivation, not the full boat of sleep disorder breathing, but the end results become the same.

  • They were showing that with healthy young males in their early 20s that, if you sleep deprive them even for a couple of days, that you start the see these symptoms of prediabetes. And it is very interesting way of beginning to educate the public on this overlap between type two diabetes, and sleep disordered breathing, why it is important to treat the sleep disordered breathes and to appropriately allow people to sleep without that fragmentation and be able to take away some of the other negative effects of sleep disordered breathing, and why it should help in what is considered their other primary disorder to the extent update to call it. So very encouraging news. There was other news in that category. I won't go into depth on it, but it is important for us to notice when we have significant movement on the comorbidity side.

  • The other significant development during the quarter was in home testing in the Americas, in the United States. Many of you are aware that during the quarter, that the CMS, so Medicare came out with its final ruling on the national coverage decision for the use of home testing for the diagnosis of sleep disordered breathing. And in fact, their final ruling confirmed their preliminary ruling from December. And the net result that is they have approved home testing, they have improved it in conjunction with polysomnography, so either course is acceptable in the determination of sleep disordered breathing and the movement of those patients into the care cycle to allow them to get treatment. Now as this rolls out we believe this is going to be absolutely fantastic news. For the patients and we believe for the sleep community. It is going to take a good 12 to 18 months we believe that for water to flow under the bridge and for us so see any material impact of these types of developments. There are multiple steps that need to occur with movement from a national coverage decision to local coverage decisions.

  • Having private insurers pick up the coverage of home testing. I mean, one, Aetna, a very large one has already picked it up which I think was a positive signal and I suspect over the coming quarters we will see others that also pick up the coverage of home testing. Key for us during this time period is we intend to support our partners in the sleep community. We feel that in this changing environment that they can play a very important role in expanding the access of care to patients integrating home testing along with their PSG and the treatment of their patients. And it will also give other parts of the health care community incentives to be engaged in the diagnosis process. So the key here is couple of developments. One of the comorbidity side. One on the home testing side, both of which we think are very, very healthy indicators for the growth of the market as we go forward. Both that have some time line associated with, but both which we think are going to have significant long term impact. So instead of continuing on that, why don't I turn the phone over to Brett. And Brett will go through results in more detail, and then we will come back and take your questions. Brett?

  • Brett Sandercock - CFO

  • All right. Thanks Kieran. So briefly, I will run through our March quarter results. Revenue for the March quarter was $211.8 million an increase of 16% over the prior year quarter. Favorable currency movements added approximately $12 million to our Q3 revenues. Our income from operations was $37.4 million for the quarter. Net income for the quarter was $29.7 million. Diluted earnings per share for the current quarter was $0.38 which represents an increase of 12% compared to the prior year quarter that is including voluntary recall expenses that we recognized in the march quarter last year. SG&A for the quarter was $70.4 million an increase of 14% over the prior year quarter. In constant currency terms SG&A increased by a modest 6% over the prior year quarter.

  • SG&A's percentage of revenue was 33% compared to a year-ago figure of 34%. R&D expense for the quarter was $15 million an increase of 15% over the prior year quarter. In constant currency R&D expense was consistent with the prior year. As a percentage of revenue, our R&D was 7% and again this consistent with the year-ago figure. With our ongoing commitment to innovation, product pipeline and clinical trial commitments we and R&D expense in the percentage of revenue to continue in the 7% range through the balance of FY '08. Amortization of acquired intangibles was $2 million for the quarter and stock-based compensation expense for the quarter was $5.6 million.

  • During the March quarter, there was three nonroutine transactions that impacted our net income. And I will run through these. First, we made gain of $5.9 million on the completion of the previously announced sell and lease back transaction on our Poway property in San Diego. Second, we recognized an expense of $3.2 million associated with the write down of certain at cost investments. And third, we made a $2 million donation to the ResMed foundation during the quarter. The aggregated net after tax impact of these transactions was a decrease in net income of approximately $0.2 million. So the bottom line impact of all those transactions was negligible. Turning to revenues in more detail. Over all Americas sales was $99.6 million an increase of 5% over the prior year quarter. Sales outside of the Americas totaled $112.2 million an increase of 27% over the prior year quarter. Breaking out revenues between product segments, in the Americas flow generators were 5% lower than the prior year quarter, while masks and other increased by 13%, reflecting the continuation of strong sales in our new product introductions. For revenues outside the Americas, flow generators increased by 23% over the prior year quarter, reflecting increasing momentum in S8II sales, while masks and other increased by 33%. The gain driven by strong new product sales.

  • As Kieran indicated on a group bases flow generator sales increased by 11%, while masks and other on a group basis increased by 21%. Cash flow from operations was $33.9 million for the quarter. Capital expenditure for the quarter was $17.3 million, and this included $7.5 million in building construction costs associated with new headquarters in San Diego. Depreciation and amortization for the quarter totaled $14.7 million. We received $24.7 million in cash from the sale of our Poway property. And these funds will be used for the on going construction of our San Diego headquarters. During the quarter we also repurchased 575,000 shares for consideration of $23.2 million as part of our ongoing share buyback program. And to date on this program we have repurchased 3.5 million shares out of a total approved buyback of 8 million shares.

  • Looking at the balance sheet, our balance sheet remains strong. Total assets at the end of march were $1.4 billion and net equity is $1.1 billion. Cash and cash equivalence net of our external debt was $175 million at the end of March. I would now like to hand the call back to Kieran.

  • Kieran Gallahue - President, CEO

  • Great, thanks, Brett. Well, why don't we jump right into the Q&A section. Angela, if you could lead us there, please.

  • Operator

  • Thank you, sir. (OPERATOR INSTRUCTIONS) Additionally we would ask that you limit yourself to one question and one follow up question originally. Thank you. And, sir, your first question will come from the line of Ben Andrew with William Blair. Please proceed.

  • Ben Andrew - Analyst

  • Good afternoon.

  • Kieran Gallahue - President, CEO

  • Hey, Ben.

  • Ben Andrew - Analyst

  • I guess the first thing is maybe let's talk about where the market is at in the U.S. and in Europe. The U.S. basically, obviously, you're continuing to struggle with generators. Tell us what you think underlying patient unit growth is, as well as -- and the second part of that really is, what do you think is going to happen with these new products coming out and can you get back to a point where you're taking back share even yet in the next couple of quarters?

  • Kieran Gallahue - President, CEO

  • Yes, great question. So, we think on a global basis, that the market is growing at about a 15% or so rate. And obviously we are outperforming that on the international basis. And we have had some challenges as you know on the U.S. side, particularly in the flow generator side of the business. As far as visibility into patient flow, that is always a difficult one to say. I think this quarter was an unusual one from the perspective if you had a lot going on in the market place, on one side you had home testing NCD coming out, had you some fluctuations in the economy on the other side and of course you had competitive bidding. So, I think to a certain extent we saw impact on the HME side as they just sort of took a little breather and said let me just make sure I understand what is going on here before I build too much inventory.

  • On your question on products, I am actually very, very excited about the product flow that we have coming through. The -- part of the success that we have seen in the international markets is -- has been contributed not only by the mask product line which is really doing quite well in market places that historically have been more difficult to grow, but also on the flow generator side where we have introduced the S8II products already with the Easy-Breathe technology. And so we're get something really strong market feedback on that. And that is very comforting. The -- on the U.S. side, as we look into this quarter we have got two products that we will be introducing in that high end. We have the APAP product and the elite. We will have a full quarter of the VPAP Auto which we didn't have during the last quarter. And, we will be entering -- although it will be later in the quarter so much less of an impact, but I think it is very important that we're entering the lower segment with EPR on the escape platform.

  • So I think that plugs a hole that we were clearly struggling with a little bit and I think that -- and quite frankly I think it will be better for patients in the long run because what it is doing is bringing down a compliance oriented type of feature set into that category. We have had some real good competitive wins here recently that we haven't seen the impact fully of. We have had a strategy of trying to make sure that we participate in all segments of the market. We have seen a win here within the last couple of months where we became the primary supplier to Praxair on a global basis, and for the first time in our history, with Apria we're going to be on a level playing field in their essential care model. And that's really -- the ink is just drying on that agreement at this point. But -- so as we look forward I think it is going to give us access both on a product and on a customer basis to some wind that we didn't have here in the last few quarters so I am actually very optimistic about it.

  • Ben Andrew - Analyst

  • Just a quick follow-up, pricing dynamics in the U.S. stable, getting worse, and kind of roll off the impact later this year? And then maybe Brett can follow-up with what the currency impact could be for the balance of this year if rates stay the same. Thanks.

  • Kieran Gallahue - President, CEO

  • Yes, all right, great, thanks for the questions Ben. So on the pricing, I would say the same thing I did last quarter, which is that we have not seen the floor that was established several quarters ago go any lower, which is good news. That's what we look for. if you go back three quarters, four quarters or so ago when we started to see some of the significant price pressures and that's when we were talking about some deals that were quite challenging. We're not seeing prices go below that still.

  • What does happen in this market place, is that you see those early deals at a few customers, and then it rolls across the customer base. So basically this market is inefficient in the short term and it's efficient in the longer term. So what that means is that we see the effect on average sale prices sort of integrate over the series of quarters. We still have several quarters where that is coming through on that curve. But what we look at is to see was the floor established and we have been encouraged by what we have seen in the market place.

  • Ben Andrew - Analyst

  • Great, and Brett?

  • Brett Sandercock - CFO

  • Yes, Ben, on the currency side, this quarter impact was a little bit favorable for us because the Euro was particularly strong and we did have some hedging gains this quarter. The -- looking forward if you look at it sort of current rates as they are, it's -- I mean it is hard to predict it depends on the dynamics of the Euro versus the Aussie and so on, but getting through to the $0.01 positive, $0.01 negative, up to maybe $0.02 max and I see that going forward that could be -- stayed perhaps $0.01 detriment to our Q4 but I don't see it as being particularly significant. And again, it really does depend on how the currencies move. But with the hedging in place and our exposed I don't think it is going to impact significantly but it can be $0.01 or $0.02 either side of EPS.

  • Ben Andrew - Analyst

  • But on the top line it would be another $10 million or $12 million quarter or is that going to start to come back down because the year-over-year rate is getting a bit tighter?

  • Brett Sandercock - CFO

  • No, if you see -- you're up there [$1.56, $1.57], pretty high, so I would suspect that it will come through it roughly that sort of number again on the top line.

  • Ben Andrew - Analyst

  • Okay. Great. Thank you.

  • Operator

  • And your next question will come from the line of Paul Choi with Merrill Lynch. Please proceed.

  • Paul Choi - Analyst

  • Thanks. Can you guys hear me?

  • Kieran Gallahue - President, CEO

  • We can, Paul. Thanks for your call.

  • Paul Choi - Analyst

  • Okay, great, thanks. If we could maybe start with home testing now that you guys have had some time to review the ruling. Could you give us, , perhaps your sense of how the paradigm will evolve here given some of the ambiguities in the documents, and the sense that if a person does test, for instance, positive on a home test, how you see them ultimately getting onto a device. Is it going back to lap to the titrated with a confirmatory PSG and so forth? If you can walk through how you envision that process developing. And secondly, how you see the DMEs and physicians ultimately allocating the reimbursement for that. If you could sort of give how you envision that perhaps a year or 18 months down the road, that would be

  • Kieran Gallahue - President, CEO

  • Yes. Okay great. So, a lot of water has to flow under the bridge here. So, what we're doing is we're listening to our customers. We're listening to the sleep community. We're listening to the HME community, and we're seeing what since they are the ones at the cold phase, we're seeing what are you trying to do how are you going to handle this. How are you in some cases lobbying, what do you think those -- the success of that will be? So I -- my guess is what is going to happen is there is going to be a number of business models that are going to come out over the coming months that are going to try to influence the net outcome of this. All right. So we have got I think some of the leading sleep physicians who are trying to look at this on the hub and spoke model and they are saying, you know what, this is a change I can grow my business with, and how am going to use this is to augment the PSGs, particularly the ones that are hybrids that are dispensing as well as doing diagnosis, you hear mixed reviews. Some of them want to bring people back in and do titrations. Others want to keep the beds open so they can use those for diagnosis of more complex patients and use home testing for the simple. So I think there is probably going to be both regionally and locally that in the next X number of months you will see people trying each of those. And I think CMS is going to have to rule what they are most comfortable with and what they feel provides the most care at the most economic level.

  • I would hate to try to guess what a government is going to do, but I think that whichever way it leads to the right economics I think will be adopted, and quite frankly from our perspective, any way you look at that we win and I think the patients win, and I think it will be positive as we move forward. There are other players that are trying to play a role here, we hear wind of HMEs trying to play roles are, of IDTFs, of other players in the health care community. And they will all try to figure out if there is a role for themselves in that market place where they can, in many cases take the technical component, and provide the read fee or professional fee, to either the sleep physician or other sleep train physicians in the process. So again I think what you're probably going to see there that is the HMEs and some of these other players are going to try to partner with the sleep community or other parts of the health care community to try to figure out how they can, on one side minimize near term channel conflict, while building relationships with their key referral sources.

  • So it -- Paul it is a real mixed bag now. But I think that is going to be good. I think it is good because there is a lot of activity, there is a lot of interest. We're certainly getting a lot of queries about our apnea link with oximetry, because it is a very simple device. It is highly accurate. Sleep physicians have been using it as part of their hub and spoke model now for several years, and it is very well positioned to help them as they think through the model that is going to be best both for their own business as well as patient care. But water needs to flow under the bridge, but I think it is all positive momentum.

  • Paul Choi - Analyst

  • Okay. Then a follow-up for Brett if you don't mind. Just on the investment write down. Can you comment on what it is specifically, and what about a change it from a temporary to a permanent impairment? And secondly, on the inventory side, it did step up I think you said a little over $3 million. How much of that is perhaps, apnea link related and how much of it is anticipation of buildup for Medtrade trade here? And I will hop off, thanks.

  • Brett Sandercock - CFO

  • Okay. So, on the write down a couple of [ad hoc] investments a few trigger events that happened in the quarter on each of those. One of those entities, did announce during the quarter they had a significant goodwill write down, and it was significant compared to the overall market cap of that company. So, we took the view that after some significant write downs and significant reduction in their share price, and this was in the flag in 10Q over last while potential unrealized loss there, so this quarter we basically bit the bullet and wrote that down, based on that trigger event. Same with another -- there is another small one in there as well, and that they have really decided to abandon the business model and looked like we weren't going to get anything from that so, we also wrote that one off as well. So a couple of trigger events that moved it from temporary to what we thoughts with a permanent impairment. On the entry levels on to [barders] this combination is a little bit of some stocking to get ready for S8II launch in the U.S. for example, which is adding a little bit there. You do tend to get some currency impacting on that as well. If the U.S. weakens against the Euro, the European stock holdings would go up as well just on translation impact. So it is a combination of a lot of items there.

  • Paul Choi - Analyst

  • Okay. Thanks a lot guys.

  • Kieran Gallahue - President, CEO

  • Great, thanks Paul.

  • Operator

  • And gentlemen, your next question comes from the line of Michael Matson with Wachovia Capital Markets. Please proceed.

  • Michael Matson - Analyst

  • Hi, thanks for taking my question. I guess I was wondering, given what has happened with the home testing reimbursement, do you think that there is a possibility or is there anything in the works to get reimbursement coverage for the autosetting units?

  • Kieran Gallahue - President, CEO

  • Yes, thanks for the question, Mike. That's -- and it is a good question. It is a hard one to predict. I can tell you that as soon as the -- as we saw the preliminary NCD, we did go back to the well. We did work with our Washington consultants and put together a modified version of what we had tried before on the autosetting because we think it is the right thing for the patient. We think it is the right thing for our home care providers and we think it is going to be the right thing overall for the sleep community to have appropriate reimbursement for these, these autosetting devices. So we're definitely taking a bite at that cherry. We think that the case makes sense economically and for patient care, but once again it is always so hard to predict the way the government is going to move. And I would be very hesitant to give you a specific prediction on that, but I can tell you we're doing whatever we can to support the channel on that.

  • Michael Matson - Analyst

  • Okay. And then, your U.S. business, this is -- it slowed once again here, what is going on and, I mean, when do you expect that to reaccelerate and do you expect it to reaccelerate I guess?

  • Kieran Gallahue - President, CEO

  • Yes, well, the answer is yes, we do. So let me review a little bit about what we have been faced with. this quarter was a good example of where there was just a mixed bag. We had some very, very positive results, some good indicators on the high-end product line. So the VPAP Auto was very encouraging. On partial quarter impact but it was very encouraging. The movement towards additional use of autosetting devices, which again is why we want to go back to that well and we think it is appropriate for our HMEs to be appropriately compensated for that. But we're seeing even in advance of that we're seeing a higher movement towards many of these autosetting devices. Where we struggled was in that lower end. And really, it has to do with not having expiratory pressure relief in the lower end prices. The market has clearly told us they feel that is a valuable feature set. It's one that sells well in the higher end of our product range and they have told us that it is important they believe in the patient compliance. And therefore we need to have that in that range of products. That is exactly why we accelerated our product development cycle on that product, and I am actually very pleased with the efforts of the team and most importantly the results of the team in being able to position that for launch later in this quarter. So I think that is going to be important.

  • I also think on the mask side, the Mirage Micro is coming out exactly as we would have hoped it would. it is a great product. And it complements our product lines in the Swift II and the Quattro. In the nasal pillows, that Swift II, we were holding the lions share of that market and we were getting chipped away a little bit with some new entrants. This Swift LT that will be coming out later in the quarter and will be there for everybody to see at Medtrade it's just a fantastic product. It -- I mean it is both efficacious. It is very significantly differentiated from the Swift II. It takes the best parts of it and it also gives it a different product form. And that gives people a choice within the nasal pillow segment they don't have to look outside of ResMed to get a choice of product form. So that's positive.

  • And I also think that the -- looking at some of these customer wins that I was talking about participating in some of those segments, particularly some of the large account, I mentioned the one at Praxair and I mentioned the win -- the level playing field that we have now at Apria that we hadn't enjoyed before. I think those are important aspects as we gain back our step here. And, I think also then on the backdrop of that whole thing because I think your question at the end we sounded even broader, will it come back. I think that the signals in this market place both in the comorbidities and the home testing are very, very good indicators for the long term health of this industry. I remain very confident of that.

  • Michael Matson - Analyst

  • Okay, thanks.

  • Operator

  • (OPERATOR INSTRUCTIONS) Your next question comes from the line of David Clair with Piper Jaffray. Please proceed.

  • David Clair - Analyst

  • Hey, guys, congratulations on a good quarter.

  • Kieran Gallahue - President, CEO

  • Thanks, David, and welcome to the coverage.

  • David Clair - Analyst

  • Thank you, thank you. Hey, just -- can you give us an update on competitive bidding? What are your conversations with the DMEs going like? And any additional color you can provide on how that is progressing.

  • Kieran Gallahue - President, CEO

  • Yes, sure. So with the competitive bidding, they released the first 10 MSAs, the results of those first 10 MSAs. As there are many, many MSAs throughout the United States. And with the feedback from the HMEs, a couple things. One is as in this market place only about 20% of the patients that are served are of Medicare age, so it sort of dampens the effect to some extent. That being said it is certainly causing a lot of conversations within the HMEs.

  • We heard one large customer in the last couple days in fact in their public comments was very vocal in what they are doing to try to communicate with CMS, their dissatisfaction with the process even though it is a customer, or an HME that is well served by these types of decisions, because their business model supports it, the basic feeling the HME community is this is not the best thing for patient care and that they will very aggressively communicate that with examples back to CMS. So as we look forward we certainly have the next 70 that are up for review here. And I think it is going to be interesting to see the impact that the HME community has on the rollout of this, or changes to the rollout or lack of rollout. So, I think there is still some smoke in that sector. Good news for us in this industry is it is about 20% of the market. About 80% is still in the private pay and the managed care side.

  • David Clair - Analyst

  • Do you expect any kind of impact once it kind of gets up and running here, or how are you kind of looking at possible price pressure from it, or anything along those lines?

  • Kieran Gallahue - President, CEO

  • Sure, in these markets there is always price pressure. If we go back two or three years ago, the big talk was on oxygen and [med neb] cuts in last year we had some industry led challenges. This year we have got competitive bidding. There -- in these kind of markets, there is always pressure on making sure that you're providing technology at appropriate prices, and the government is going to look very closely at those things. The good news in those circumstances from my viewpoint is that, to the extent there is pricing pressure, and again there always is, you want to be the number one or number two player, because scale is important in reducing costs and being able to effectively serve the market place. So I have full expectations that whether it is competitive bidding or some other term, in another year we will still be talking about pricing and we will probably be talking about that ad infinitum because it is just the nature of any medical device business.

  • David Clair - Analyst

  • And then just one follow-up on kind of the North American market. Do you think that this was kind of share loss or how do you think the overall North American market is growing? I know you said worldwide you still think the 15% range is kind of what we should look for. But do you think it is any kind of slowdown in bed growth or are there any kind of macrofactors coming into play here?

  • Kieran Gallahue - President, CEO

  • Yes, so I think we do think on a global basis somewhere around a 15% growth. And so, we feel that we really wanted to grow or we grew a bit. Certainly in the international markets we feel we gained share and I have to say in the U.S. we -- on a global -- on a macrobasis we lost share. And I think that was predominantly the pressure we saw in that low-end flow generator category where we had yet to release a product with expiratory pressure relief. And the nasal pillow segment we saw people trying to chip away at our strong lead there in advance of us launching a new product series. I think it was a balanced bag for us this quarter. And it is one of the things we're very pleased why we have an international business on it.

  • I think, as far as bed growth very hard to say, but I would be surprised if you're going to see substantial bed growth in the near term as people look at home test and look at ways they can add capacity. Now, do I still hear about it? You bet. I mean I heard a group just two days ago who announced here in town that they are going to open up several beds here in San Diego. They were going to open up several beds and I know I have heard news in other parts of the country. So on a local level you will still see bed growth, but I think many people are going to look at the home testing and see how they can use that. Certainly many of the sleep partners we talk to say how are they going to increase their capacity by leveraging home testing in some cost effective manner.

  • David Clair - Analyst

  • Okay, thanks a lot guys. Okay, great, thanks.

  • Operator

  • Gentlemen, your next question will come from the line of Alexander Smith with JPMorgan. Please proceed.

  • Alexander Smith - Analyst

  • Hi, guys. Just a question on home testing. If CMS or autosetting devices don't get a separate code, does that home testing really work then, because how are patients going to get titrated in the absence of taking those home devices.

  • Kieran Gallahue - President, CEO

  • It still works either way but the question is, is it as cost effective as it could be. And there is probably also going to be a question if it doesn't get adopted in the first six months does it get adopted in the second six months or in the second year. Because I think there is going -- I find it hard to believe there is not going to be a lot of eyes that are on the area, and eyes that are looking for where they get benefit in the system. Right. So I think it is going to be --

  • Alexander Smith - Analyst

  • So, if you don't get an autosetting code at home testing is really just another screening tool.

  • Kieran Gallahue - President, CEO

  • Well, no, I think if you look at if you who look at some players in the global community and even some players in the U.S. community, we have seen where AutoSets use -- are used in a pooled capacity. So sometimes even today, you may see a sleep lab will do a titration, they will titrate at a certain level and the DME will still use an autotitrating device on a patient for two weeks, three weeks, a month, and they will basically use it as a titration checker if you will, all right. And then ones they get that, let's say, 95th percentile on our machine, then they still issue a CPAP, but they will do it at a pressure that they validated, the pressure that was titrated in the lab. So there are multiple models already in existence and can be viewed. I think what's going to -- certainly the -- by getting a code, what it does is it narrows the gap for the HME and it is further inducement and further encouragement not to remove the AutoSet from the patient and do a switchover, because that costs them money. It is time and it's risks. Any time you change somebody's therapy if they have been complaint you're introducing a risk that inevitably is going to cost them more money.

  • So I think what is going to happen is different people are going to experiment just as they already have and have for a number of years. I think they are going to experiment with different process flow. And I think the big determinant of whether they get paid for or not may be the percentage that keeps them on AutoSet as opposed to whether they do it at all or not. Does that make sense?

  • Alexander Smith - Analyst

  • Yes. All right. Thanks for that, guys.

  • Operator

  • And gentlemen, your next question will come from the line of Joanne Wuensch with BMO Capital Markets. Please proceed.

  • Joanne Wuensch - Analyst

  • Thank you.

  • Kieran Gallahue - President, CEO

  • Hi, Joanne.

  • Joanne Wuensch - Analyst

  • Gross margins seem to be hovering around the 60% range. How much of that is being negatively impacted by foreign exchange, and how should we think about that going forward?

  • Kieran Gallahue - President, CEO

  • So, why don't I push that question over to Brett.

  • Brett Sandercock - CFO

  • Yes, thanks, Kieran. So yes, Joanne on the margin, there is two factors working here. The stronger Euro is benefiting the margin, and obviously the stronger Aussie against the Euro is detrimental to it. If you look at it in combination, it is pretty much a wash at the moment on the margin line, so and -- really, because the Euro is tending to offset the Aussie dollar impact there.

  • Joanne Wuensch - Analyst

  • And looking forward, are we thinking 60% is the floor on this?

  • Brett Sandercock - CFO

  • Well, I mean it -- you look forward, there -- you don't know what is out in. We think around 60% is probably the number. Obviously there is a lot of impacts on that. You will continue to see pricing pressures, and that has been a negative on the margin for a reasonable period of time. But we have had offsets in that, for example in geographic mix where international styles have been pretty strong so that helps the margin. Product mix also helps. If mask growth is much stronger than flow generator growth, for example, that we're experiencing at the moment, that will help the margin. Clearly, when flow generator growth reaccelerates that will then tend to put pressure on the margins. So it is a matter of lining those all up and looking in a crystal ball, but they are the factors that have an impact on us, and then you really need to make a call on where you think they are heading going forward.

  • Kieran Gallahue - President, CEO

  • Yes. The other aspect, is that we have had a very aggressive global supply chain team, particularly on the vendor alliance side which has been, I think just doing a bang-up job of working with our vendors to reduce supply chain costs which have been benefiting us in the near term and I think we will see that as we move forward. So we're very actively working throughout the organization in order to maintain the margins.

  • Joanne Wuensch - Analyst

  • Have you seen any changes in the broader market now that Respironics is part of Phillips?

  • Kieran Gallahue - President, CEO

  • Good question. We don't see a lot yet. We remain very positive about Phillips entry in this market place. One of the things -- or a couple of things we're encouraged about are, Phillips is known more to compete through innovation, they're known more to compete through market expansion. And historically of course that is exactly where we like to focus. And I think that that is good for the long term health of the industry, because we all need to be focused on expansion of the market, reaching more patients, and we have long known that when we have been the guy doing the heavy lifting that the fast follower strategy of our competitors was a good strategy for them. And I think that we are very much looking forward to the awareness that could be built through Phillips and their activities on a global basis, as well as their focus on innovation. So no significant near term impact. And we still remain positive that it is going to be a good positive long term impact.

  • Joanne Wuensch - Analyst

  • Okay. My final question has to do with the domestic sleep therapy number, hate to harp on this one. But it seems as if it is the low product or low feature product that really tripped you up this quarter and I am curious why the Tango didn't fit that need.

  • Kieran Gallahue - President, CEO

  • Yes, well, so it was two areas right. You're absolutely right. On the flow generator side it was that lower category. And the issue has to do with that feature set of expiratory pressure relief. The Tango is actually doing its job in sort of that blocking strategy in the low end and used where all that is required is a very, very basic machine. So it is doing its job in that category. What we have seen though, is that as the expiratory relief type of feature set has moved into the lower end of the instrument side, that a lot of volume has moved in that direction. And just -- we've been very frank about it, we have been hurt on that side by not having a product that has that feature set. And that's exactly why we accelerated the development of the product that will be able to release later in this quarter.

  • Joanne Wuensch - Analyst

  • Okay. Thank you very much.

  • Kieran Gallahue - President, CEO

  • You bet. Thanks for the questions.

  • Operator

  • And gentlemen your next question comes from the line of Jason Mills with Canaccord Adams. Please proceed.

  • Jamar Ismail - Analyst

  • Hi. This is Jamar for Jason.

  • Kieran Gallahue - President, CEO

  • Hey, Jim.

  • Jamar Ismail - Analyst

  • The question I have is on the higher reimbursement for APAP, is there anything anecdotally you could give us from your feedback about the process that is going on now, and is the time line still at the first cut towards the end of this month?

  • Kieran Gallahue - President, CEO

  • I am sorry, Jamar, I missed the beginning part of your question. Could you repeat that?

  • Jamar Ismail - Analyst

  • Could you give us any color or anecdotal evidence that you have from the process going on like what the status is?

  • Kieran Gallahue - President, CEO

  • On the APAP coding?

  • Jamar Ismail - Analyst

  • Yes, right.

  • Kieran Gallahue - President, CEO

  • I'm sorry I missed the beginning part of your question. So on the APAP coding there is not a lot of color to provide. we submitted a recommendation I think Dave Pendarvis is on the line now and may want to jump in and give more color detail. We submitted a proposal that we believe should -- we thought it was a well written proposal that supported the channel. And was sufficient information to say that is both better for patient care and better for the economics of the channel in order to support the use of AutoSet. My understanding is that by the end of May or June we should get some preliminary indications back from CMS, and that following that there will be a comment period and the final ruling will follow from that. So, my expectation is within the next several months, we will get an indication about which way it is going to go although there will be no final decision. Dave, do you have anything else to add to that?

  • David Pendarvis - SVP, Organizational Development

  • No. Kieran, this is Dave. I think you have got it right. the timeline is that it should be towards the end of May that there is a public hearing on the matter. You typically get a preliminary decision from CMS in advance of that. But then as you indicated, there is a period after that, and the final decision may not come out until later this year, perhaps as late as November of 2009 -- I am sorry, 2008. If there is a code granted it wouldn't go into effect until January, of 2009. And you really don't get much in the waive anecdotal indications from CMS in advance. Obviously we will get something in advance, we expect. And then you would have whatever readings of the tea leaves you can get from the public hearing sort of at the end of May, but then you don't get the final decision until later in the year. So, we remain optimistic as Kieran said earlier in the call. It is always hazardous to try to predict what the government is going to do, but we do believe that the AutoSet devices, in particularly the use of AutoSet devices and particularly in the use of auto titration, makes sense for payers, makes sense for patients and makes sense for our customers, and we're hopeful the CMS will see it that way.

  • Jamar Ismail - Analyst

  • Okay. Thanks. Moving to home sleep testing have we seen any local color decisions yet and if so are they following the NCE?

  • Kieran Gallahue - President, CEO

  • Yes, so the water is still flowing under the bridge on that one. We are still waiting to hear the various LCDs, and see how that is going to translate into daily coverage, and how it is going to impact the market and all. So still a little bit of water to go under the bridge on that. Again, Dave, do you have any comments.

  • David Pendarvis - SVP, Organizational Development

  • No, I think our expectation is that it will flow through a long the lines of the original CMS decision, and that the private carriers will fall in line. Again, it makes fundamental sense to allow home testing as an adjunct to polysomnography. That way the physicians can make the choice whatever they think is right and the patients will be allowed to take whatever they think is appropriate. So since it makes fundmental sense it should go forward along that line, but it takes some time to play out.

  • Kieran Gallahue - President, CEO

  • Thanks, Jamar.

  • Operator

  • And gentlemen, the next question comes from the line of Joshua Zable with Natixis. Please proceed.

  • Joshua Zable - Analyst

  • Hey, guys. Congratulations on a great quarter and thanks again for taking my question here. Most of my questions have been answered, just a clarification. I know Kieran you said that the S8II Escape with Easy-Breathe at the low end to get EPR there. I assume that would be part of a -- the full launch with other S8s, or is the way to think about it is that would be the first to come out and then the higher end models coming out in quarters to follow?

  • Kieran Gallahue - President, CEO

  • Thanks, JZ. Actually, it is the opposite. So we're actually right now in the midst of launching the S8II Vantage and S8II Elite. Alright. And these are the products that we had launchland or derivatives of those products we had launched in other parts of the globe already. So that's what you're going to see when you go to Medtrade and that's what our sales force has in its bag to sell. The Escape with EPR is not out -- until the end of the quarter. So -- and that's this rollout that we expect on the CPAP range of our products.

  • Joshua Zable - Analyst

  • Okay. So the ones that are out are the APAPs right now?

  • Kieran Gallahue - President, CEO

  • The ones --

  • Joshua Zable - Analyst

  • The S8II Vantage and the S8II Elite are both auto devices, no?

  • Kieran Gallahue - President, CEO

  • Yes, so, you're absolutely right. The Vantage is an auto device absolutely. The Elite is a CPAP device that has expiratory pressure relief and has the data and efficacy gathering capabilities. So think of it as our data rich CPAP, and our APAP, that is our high end product line. They are launching with the S8II and the Easy-Breathe technology as we speak. And the EPR which is a little less feature rich on the data side of the equation, will have -- and it is also less costly, is the device that will now have expiratory pressure relief and that comes out at the end of the quarter.

  • Joshua Zable - Analyst

  • Okay. And then just along the lines -- I am glad you brought up the data-rich device. It is clear that along with the changes here in Medicare that monitoring of patients needs to be stepped up a bit. And obviously, with your devices having certain advantages especially low-end ones, have you seen a pick up or a higher level interest in sort of devices that can offer more data?

  • Kieran Gallahue - President, CEO

  • That is a great question. And we actually have seen -- in our product line, we have seen growth in the high-end category. If you aggregate our high-end devices and that is even taking VPAP auto to the side. So if we just stay on the CPAP, APAP side we have seen that higher end category grow. Now whether or not it is growing also in the low end again we're more in a competitive challenge position, and that's what we will find out once we launch the escape with EPR. So, that's a balance question. But we're definitely seeing a pick up in those higher-end machines.

  • Joshua Zable - Analyst

  • Okay. And then just along the lines of the launch I am sure obviously people will look at the US generator number. I expect good things from the new launch. I am sure you do, too, as you said. But is there any sense that if I were a sales person, and I knew I had a launch coming up, of new products, especially the newest ones, latest and greatest, etc., is there is any sense that part of the weakness might have been sort of some waiting for the next one?

  • Kieran Gallahue - President, CEO

  • Yes, that is a great question. There is, because there is a lot of psychology that happens at the field level. I have a lot of confidence in our sales reps, and I had think they had are a very mature organization. And they know that they need to sell what they have got. That being said, is it possible that there might have been a little bit of hold off? There is a possibility. Was it material? I have nothing that would indicate or prove that it was material or not material. I can tell you on the opposite side now that we're providing them in their bag, these guys are extremely excited. The ability, particularly with that Easy-Breathe technology, they were able to warm up to it with the VPAP Auto, alright? So they had a couple of months of selling it.

  • We didn't see the full quarter impact but we had a couple of months, so they were able to get out to customers and in essence trial. How are they going to respond to this low-noise positioning. How will they respond? And they have responded extremely well. And of course the customer's first question was always, so tell me, when is this going to come out in the CPAP range, are you going to put this in the CPAP range. So their ability to have a second act only a few months later and be able to put it in the Vantage and put it in the Elite has really got the sales force energized. In addition to knowing that they have got the Swift LP coming down the line and the recently introduced Mirage Micro. So it has been a great psychological boost for them.

  • Joshua Zable - Analyst

  • Great. And then just, as I always ask, any update on [Sam] there?

  • Kieran Gallahue - President, CEO

  • On Sam? Oh, yes. So, the ventilation product range continues to grow. I have been very pleased with the operational efficiency improvements that we have seen in that -- what we call our Paris range of products. Several of the products remain manufactured in Paris itself, we have moved several other of those products over to Sydney, so it is being received well. We are anticipating, though, is a series of updates to those products which will be coming out later next year. So we're not announcing any dates on that, etc., but we have moved the team from simply getting the efficiencies in place, and solving some of the sort of the normal deficit engineering you see in companies when you buy at an early stage, and now they are able to focus their full time attentions at the new generations. So we have a really well energized and quite frankly a well led team over there.

  • Joshua Zable - Analyst

  • Great. Well, thanks for taking my questions, guys.

  • Kieran Gallahue - President, CEO

  • You bet. Thanks, JZ.

  • Operator

  • And gentlemen, at this time, this will conclude the allotted time slot for the Q&A session. I would now like to turn the conference back to management for any closing comments.

  • Kieran Gallahue - President, CEO

  • Well, thank you very much. I appreciate everybody's time and attention. I think this was a great quarter for ResMed. It was a quarter that demonstrated, and I think reinforced, our strategy of internationalization. And we have got a lot of exciting things coming up. So I look forward to updating you in future quarters. Thanks again for your questions and your interest.

  • Operator

  • Ladies and gentlemen, we thank you for your participation in today's conference. This does now conclude your presentation and you may disconnect. Have a wonderful day.