瑞思邁 (RMD) 2009 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the second quarter 2009 ResMed, Incorporated earnings conference call.

Now, at this time, all participants are in a listen-only mode.

(Operator Instructions).

Today, the Company has asked me to address certain matters.

First, ResMed does not authorize the recording of any portion of the conference call for any purpose.

Second, during the conference call, ResMed may make forward-looking statements, such as the projections of future revenue or earnings, new product development or new markets for Company products.

These statements are made under the Safe Harbor's provision for 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 called -- these factors are discussed in ResMed's SEC filings, such as Forms 10-Q and 10-K, which may be accessed through the Company's website at www.resmed.com.

With that said, I would like to turn the call over to Kieran T.

Gallahue, ResMed's President and CEO.

Mr.

Gallahue, please go ahead, sir.

Thank you, Eric, and good morning, and welcome to ResMed's second quarter earnings call.

As with our previous calls, I'm going to begin the call with some summary remarks, then I'll turn it over to Brett Sandercock, our Chief Financial Officer, to go through the numbers in more detail, and then we'll take your questions.

Well, we had another very solid quarter, one that once again demonstrated the power of having a well-balanced, geographically diversified Company.

We are pleased to report that global revenue for the second quarter of 2009 grew 10%, or up 16% on a constant currency basis.

Revenue growth in the Americas accelerated by 23%, up sequentially from 16% in Q1.

Rest of world revenue declined by 3%, but in constant currency terms grew 8%.

As expected, currency had a significant affect on ROW revenue.

GAAP EPS increased 29% to $0.44.

Excluding amortization of acquired intangibles, EPS was one penny better at $0.45.

We also experienced balanced growth across product categories, with global flow generator sales up 9% or 15% in constant currency, and mask segments growing at 12% during the quarter, which was 16% increase on a constant currency basis.

We saw significant growth in all product segments of flow generators, but especially with our high-end flow generators, the S8II Autoset and Elite II, that we had launched in Q4, as well as our mid-range, S8 Escape II.

Both revenue and unit volume increased across the flow generator product line.

Sales of Americas flow generators were up 25% in Q2, a healthy increase from 14% growth in Q1.

Our new Easy-Breathe technology is setting a new standard in the industry and is helping to differentiate ResMed from our competitors with improved noise levels, comfort and performance.

It's notable to mention that the fastest growing segment of the US flow generator business in percentage terms has been our Autoset product line, and that trend continues.

Our newly-introduced bilevel devices in the smaller S8 box continued to gain momentum in Q2.

This brings the Easy-Breathe technology into our bilevel product line, and we're excited about the potential upside with its second quarter of sales now recorded.

The VPAP product line continues to exceed our expectations with significant growth in the quarter with launch of VPAP S, and we continue to gain market share in this important, high margin flow generator market segment.

As I speak today, our entire new line of VPAP devices are now available in all major global markets; and over the next few quarters, we will continue to execute on our strategy to differentiate our innovative technology with these new market-leading products.

In addition, as a result of changing product mix in this category, our gross margins are improving.

Once again, we posted double digit growth in the mass segment globally during the quarter.

New product introductions included the Activa LT and Swift LT for Her.

These redesigned LT masks are smaller, lighter and more streamlined versions of their predecessors.

We expect the Swift LT for Her product will provide a comfortable and quiet solution for our female patients, as this is the first and only gender-specific product on the market.

This is an important market for us.

According to some of our sleep lab partners, women now represent 30 to 50% of their newly diagnosed patients.

And the Activa LT is a less obtrusive mask which gives patients superior performance and potentially fits 90% of all patients.

This simplicity of fit provides an opportunity for our HME providers to accommodate a wider number of patients with a single mask.

So with these new masks in the global marketplace in Q3, we remain focused on growing market share with high margin, industry leading products.

Looking forward over the next 18 months, our pipeline of products is the most robust it has been in the Company's history, and we plan to launch a series of new masks and flow generators over that time period.

In addition, towards the end of fiscal '09, we plan to introduce the Apnea Link Plus, our Type 3 home diagnostic device that will meet existing reimbursement and physician requirements.

Throughout calendar 2009, we'll be watching home testing carefully and expect home testing to be piloted in various forms.

We are working closely with our sleep physician partners to make home testing a reality that can improve patient access to appropriate therapy.

Encouragingly, gross margin improved in Q2, benefiting from a favorable product mix driven by high-end flow generators and masks, as well as our margin improvement plan gaining traction.

We're confident that we will continue to improve gross margin in fiscal year 2009 as we further penetrate markets with our new products and we continue to leverage cost efficiencies across our global organization.

Once again, we had strong performance in operating cash flow, which came in at $56.5 million, demonstrating our commitment to strong operating performance and a commitment to working capital control.

Our balance sheet remains extremely strong, with cash and cash equivalent balance at the end of Q2 of over $320 million.

Finally, I'll touch on the current economic environment, as I know it's a question in everybody's mind today.

As you can see from our Q2 results, we have not felt the level of impact experienced by some other sectors of the health care community, or for that matter the general business community.

We think this is because of the continued patient and medical community awareness and the central role that quality of sleep and sleep disorder breathing plays in the overall health and the continuing peer reviewed literature published supporting CPAP as a gold standard treatment for sleep disorder breathing.

That being said, we recognize the need to continually monitor the market and the economy, and we plan to do so.

Finally, on the market development front, we have just completed a calendar year that bodes well for the future of this market.

There continues to be validation of the critical role that sleep disorder breathing plays in the very serious comorbidities such as cardiovascular disease and diabetes.

As a reminder, the latest European Society of Cardiologist guidelines refer to the importance of identifying and treating sleep disorder breathing in heart failure patients.

Also, the International Diabetes Federation consensus statement on sleep apnea published last June concluded that Type II diabetics should be evaluated to determine if it SDB is present, and they went on to note that CPAP treatment is a gold standard therapy.

These influential global bodies confirm what we have been communicating on the critical need to identify and treat sleep disorder breathing in patients suffering from two of the most chronic, fast growing and most costly diseases in the world.

ResMed remains well-positioned to serve this market as it expands.

All right, now over to Brett to provide some additional detail on the P&L, and then we'll come back and take your questions.

Brett?

Thanks, Kieran.

I'll briefly run through our December quarter results in a little more detail.

So as Kieran mentioned, revenue for the December quarter was 223 million, an increase of 10% over the prior year; and as expected, unfavorable currency movements reduced our Q2 revenues by approximately 11.1 million.

In constant currency terms, the revenue increased by 16% over the prior year quarter.

Income from operations for the quarter was 43.3 million, an increase of 18% over the prior year quarter, and net income for the quarter was 33.9 million, an increase of 26% over the prior year.

Earnings per share for the quarter was $0.44, an increase of 29% over the prior year quarter.

Excluding amortization of acquired intangibles, our earnings per share for the quarter was $0.45.

Gross margin for the quarter was 58.8%, up sequentially from Q1 of FY '09, reflecting favorable product mix, manufacturing improvements and foreign currency movements.

The product mix impact was largely attributable to the acceleration of sales growth, both in our new bilevel range and also our Autoset devices, particularly in the domestic market.

Manufacturing initiatives, including our continuous improvement program, are also positively impacting margins.

Additionally, towards the end of the quarter, we saw the initial benefits from the depreciation of the Australian dollar.

This currency impact, together with our ongoing margin improvement initiatives in areas such as supply chain, manufacturing and product development, should see further improvement in our gross margin in the second half of fiscal '09.

SG&A expenses for the quarter came in at 70.1 million, an increase of 4% over the prior year quarter.

In constant currency terms, SG&A expenses increased by 14% over the prior year quarter.

SG&A as a percentage of revenue improved to 31% compared to the year ago figure of 33%.

The modest growth in headline SG&A expenses reflects the full impact of the depreciation of international currencies against the US dollar.

R&D expenses for the quarter were 14.9 million, consistent with the prior year quarter.

In constant currency terms, R&D expenses increased by 27% over the prior year quarter.

R&D expenses as a percentage of revenue was 7%; and again, that was consistent with the prior year.

Looking forward, and subject to currency movements, we expect R&D expenses as a percentage of revenue to be in the 6 to 7% range for the second half of '09.

We'll continue to invest in product innovation throughout the economic cycle.

Amortization of acquired intangibles was 1.7 million for the quarter, and stock-based compensation expense for the quarter was 6.8 million.

During the quarter, we also donated 1 million to the ResMed Foundation.

Turning now to revenues in more detail, overall Americas sales were $123.1 million, an increase of 23% over the prior year.

This was driven by strong growth in both flow generators and masks, with an excellent contribution from our new bilevel range which is in the S8 box, and also continued strong sales of Autoset devices.

Sales outside the Americas totaled 99.9 million, a decrease of 3% over the prior year.

And as expected, sales outside the Americas were impacted by currency movements, in particular, the depreciation of the Euro against the US dollar.

In constant currency terms, sales outside the Americas increased by 8% over the prior year quarter.

Sales outside the Americas were also impacted this quarter by lower sales of our VS ventilation range.

Breaking out revenues between product segments, in the Americas, flow generator sales increased by 25% over the prior year, while masks and other increased by 21%.

For revenues outside the Americas, flow generator sales decreased by 3% over the prior year, while masks and other decreased by 1%.

However, in constant currency terms, flow generators outside the Americas increased by 8%, while masks and other increased by 10%.

Looking at it on a group basis, flow generator sales increased by 9% over the prior year quarter, and masks and other increased by 12%.

In constant currency terms, we saw quite balanced growth with flow generator sales increasing by 15%, and masks and other increasing by 16%.

Cash flow from operations was a robust 56.5 million for the quarter, reflecting strong underlying earnings, improved working capital and lower corporate tax payments.

Capital expenditure for the quarter was 27.4 million, including 19.5 million in building construction costs associated with the construction of our new headquarters in San Diego.

We expect to incur further construction and sit out costs of approximately 31 million over the balance of fiscal year '09, with the building completion expected towards the end of the fiscal year.

Depreciation and amortization for the quarter totaled 11.7 million.

We continue to buy back shares as part of our capital management program.

During the quarter, we repurchased approximately 56,000 shares for consideration of $2 million as part of our ongoing buy back program.

As of today, we have repurchased approximately 5.6 million shares out of a total approved buy back of 8 million.

ResMed ended the second quarter fiscal year 2009 in excellent financial shape.

Our balance sheet remains very strong and is conservatively geared.

At December 31, total assets stood at 1.3 billion, and net equity as 1 billion.

Cash and cash equivalents net of external debt totaled 168 million.

I would now like to make some comments in relation to currency movements and their expected impact in Fy "09 second half results, assuming current exchange rates.

Firstly, we will continue to experience year on year currency headwinds in relation to group revenue.

In Q3, we estimate a currency headwind of between 15 and 20 million, while in Q4 this is estimated to be in the range of 20 to 25 million.

Conversely, our operating expenses will continue to benefit from the depreciation of international currencies relative to the US dollar.

This benefit is already reflected in our Q2 result, and therefore, it provides an indicative base for our operating expense run rate over the next few quarters.

Finally, from Q3 onward, the full benefit of the Australian dollar depreciation should be reflected in our gross margin.

There are clearly many factors that impact gross margin; however, on balance, we expect gross margin to improve relative to our second quarter gross margin.

In summary, we expect currency movements to have a positive impact on our net income in the second half of FY '09 and we expect net income to grow faster than our constant currency revenue growth.

I would now like to hand the call back to Kieran.

Great.

Well, thank you, Brett, and certainly we're quite pleased with the performance of the Company and the team during this last quarter.

And with that, why don't we turn it over for questions?

Thank you.

(Operator Instructions).

Your first question comes from the line of David Clair with Piper Jaffray.

Please proceed.

Hey, guys, congratulations.

Thanks, Dave.

Just a quick question on gross margin in the quarter.

What was mix versus currency, the impact there?

Can you split that out for us?

I'll turn it over to Brett in a second; but, you know, in essence, we had a couple of different moving pieces that helped us improve margin.

The basics are really what we laid out, you know, three quarters ago when we laid out what our margin improvement program was.

We've seen some significant positive impact of the cost reduction exercises that we've gone through throughout the Company -- the high value products that we've been launching, both on the bilevels and the masks have been quite favorable.

And obviously, the 4X is beginning to have a positive impact there as well.

The offsets to that were we haven't quite annualized the ASP drops that came through in the fourth quarter of last year, so those would still -- even though the market has, you know, regulated itself in the pricing and we've been very pleased with the pricing stability in the market, we still need to go through that annualization process, so that was sort of the offset.

Brett, you have anything to add to that?

Yes, I mean, that's exactly right.

If you look at, David, the product mix and FX are reasonably equal positive impacts on the margin, with smaller negatives in terms of ISP declines, which are pretty normal; and small negative on geographic mix, obviously, with the really strong growth in the Americas (inaudible) sort of skewed to the Americas a little bit.

But you take all of those into account and you sort of end up with that 50 basis point improvement.

But certainly product mix and FX were equally prominent in their contribution.

Okay.

Thanks.

And then I guess another question for you, Brett.

You said, you know, in Q3 we should expect gross margin improvement versus the second quarter.

I mean, I think, you know, everyone is expecting that; but are you willing to, you know, give us some kind of direction there?

I mean, are you looking for, you know, another 50 basis points sequential or how should we be thinking about that?

Yes, I mean, I'm always cautious on margin because of the multiple impacts on the margin, but if I'm looking forward, I do think an expansion in what we're looking at of that order is certainly possible.

You know, we haven't literally given you an exact number, but I think certainly it's going to improve.

And is 50 basis points or more feasible?

Yes, it certainly is.

You know, we've been asked a couple of quarters ago about our ability by the end of the year to get back to 60% gross margins, and we said we believe that we could do that and we continue to believe that we can do that by year end.

Okay.

Great.

And just if I could sneak one last one in here.

It looks like OUS constant currency growth was -- you know, it was a little bit lower -- I think it was a little bit lower last quarter, too.

I'm just wondering if -- you know, if there's a certain geography or something -- you know, just some kind of macro trend you could point out or give us a little bit of color there?

No, you know, our ROW is an aggregation of lots and lots of different countries and all have their different idiosyncrasies.

The real impact this quarter was more on the ventilation line, and we had introduced a product -- a new ventilation product that Brett referred to, the VS 3 -- and we'd introduced it during the last -- during Q2, but we only began shipping it really this quarter.

And so you had some customers that were holding off on shipment of it.

And so, you know, it's little things like that that can add a couple of different -- a couple of percentage points to the growth that got carved off.

But, you know, we're still pleased.

Certainly we had the currency headwind, but constant currency growth of that 8% and a great balance off the Americas 23%.

All right.

Yes, great quarter, guys.

Thank you.

Thanks.

Just to remind everyone, please limit to one question and a follow-up.

Your next question comes from the line of Peter Bye with Jefferies & Company.

Please proceed.

Hey, guys, thanks.

The -- on the US, you know, the Autoset and the VPAP, can you give us a little more color on the mix in the contribution versus units, or anything you can give us there?

Yes, you know, we don't go into --

I know, but --

-- great details on it, but we can give you some color on it, though.

Look, they're both doing extremely well is the short answer to it.

The S8II series on the PAP side, so when you look at both the Autoset and the Elite as an example that we were introducing towards the end of last fiscal year, have continued to perform quite well; and obviously, the impact of the bilevels -- we released most of them over the summer, but continue to release product throughout Q2.

So you saw that thing ramping up as we were able to get to our various customers.

They're all doing extremely well.

You know, I can't point to one and say it's all that product or all another product.

The Easy-Breathe motor technology, particularly how quiet it is and how it improves performance, is being recognized by the industry.

On the bilevel side, this is the first time that we've taken sort of the bilevel in the big box and brought it down to the small box.

It is a meaningful change to the customers, and they're recognizing that.

There's also some other aspects of this.

You know, there's been the data capable products that we have, particularly those that are the highest data capability in the Autoset and the Elite and the bilevels; with some of the changes going on at CMS, they've raised the awareness and the need to have data managed the way that we manage it.

It's more cost effective the way we do it.

It protects their revenue the way that we do it, and customers are recognizing that and rewarding us with their business.

Here, I guess what we're trying to get at is maybe how much run way there is left on that?

Maybe -- could you give us -- maybe compare it to internationally?

I mean is -- do you have, you know -- is it the mix between the products, you know, is it halfway from where you are internationally?

Is it 25% -- can you just give us maybe a sense that way or no?

I think the historical mix between -- you know, if you're asking between, let's say, bilevels and other flow generators, has remained relatively consistent.

I would expect over the coming quarters that you'll see a higher mix towards bilevels, simply because we made the greatest leap in bilevels moving it from the F7 box down to the F8 small box, and that -- so they're both doing extremely well.

But if I was going to say -- I don't know how many points that's going to be difference, but I could see bilevels playing a bigger role as we move forward.

Okay.

Great.

I guess that's my question and follow-up, so I'll get back in queue.

All right.

Thanks, Peter.

Your next question comes from the line of Andrew Goodsall with UBS.

Please proceed.

Thanks very much, guys.

Thanks for taking my question.

I was just interested in what's sort of happening with the underlying market; and I guess in particular if we sort of reflect on the numbers we can get out of what we say with Respironics, it seems to me that you guys have probably taken some market share, and if there's any comment you can add to that?

So yes, I think, you know, the last couple of quarters we've been talking about the Americas market has been growing around that 15% -- maybe a point or so less on the revenue side, a little bit above on the volume side.

The market remained strong throughout the quarter and, you know, that would suggest that we're absolutely gaining share, and I think we're gaining share for multiple reasons.

The team is executing extremely well.

We have great new product flow that we were just describing a moment ago; and we have seen some competitive wins, both at mid-size accounts as well as some of the major accounts that you were just referred to that help us gain traction and share.

So, you know, there's not one reason that we're seeing the performance improvement.

We're seeing it across the business.

And in terms of, you know, how much further that they've got to go, are there still opportunities with those accounts?

Sure.

Yes.

We've got opportunities at both large accounts and the mid-size accounts, and we'll continue to push that barrel.

Okay.

Terrific.

Thank you very much.

You bet.

Eric?

Your next question comes from the line of Joshua Zable with Natixis.

Please proceed.

Hey, guys, congratulations on a great quarter.

Thank you.

Thanks for taking my questions.

And, also, a special thank you to Matt Borer -- I know you're probably there listening -- we really all appreciate your help, and welcome to Connie.

Just a couple of quick ones here.

First on the new products, I know, Kieran, you mentioned your pipeline is robust -- and I don't want to jump ahead of ourselves, and I know for competitive reasons you're not going to give too much -- but it seems like your pipeline for newer products is coming sort of quicker than historical from what I remember.

It seems like you kind of already mentioned the new generators.

Is it just iterations or are you talking about new lines that you guys are already working on and we're starting to see new products sort of come out quicker?

Joshua, you're right.

We're not going to get specific on the timing.

What we're referring to is over the next 18 months, and we did refer to both masks and flow generators -- and it will be a mix.

There will be some platform changes and there will be platform extensions.

So it's going to be all of the above.

As far as the time to market, I would agree with you.

I think we've seen some very good improvement, and for a number of different reasons.

One, you've seen that we continue to invest very heavily in innovation.

We're strong believers that there is an enormous amount of innovation to be brought to bear on this marketplace and that -- and that there's patient meaningful and customer meaningful innovation that can be brought to bear on this marketplace, and so we feel very strongly that we're going to need to keep the foot on the accelerator and spend behind that.

We're also spending smarter.

You know, we started these strategic business units about a year and a half ago led by Don Darkin, Nick [Farrell] and Stein Jacobsen, and they've done, I just think, a fantastic job of organizing the pipeline and energizing the team and focusing the team on execution, and I think it's going to pay dividends as we move forward.

Great.

And then a follow-up totally separate.

On Saime, you know, I always kind of ask this just related to the US or any new products.

Obviously, you just launched a new one in Europe.

I don't know if that means we're coming to the US or anything like that.

Can you give us an update?

Yes.

So we continue to make quite a bit of progress at the Saime organization -- or as we call it now, the ResMed Paris organization.

The leadership there has been outstanding, the team is motivated.

We have done -- and the team has done -- an excellent job of integrating not only the Paris site, but other parts of the organization in order to drive forward product improvement and product development.

The products that we're introducing now remain focused predominantly on Europe, but also some of the Asian marketplaces.

We continue to believe that the entry into the Americas market is out about two years or so.

Great.

Thanks very much, guys, congrats.

Thank you.

And your next question comes from the line of Alex Smith with JPMorgan.

Please proceed.

Thanks, guys.

Just a question, Kieran, on the auto setting category.

Obviously it's growing -- it's the fastest growing category in the US.

Do you think that's simply a case that the product is taking share out of the other auto setting devices on the market, or that that category itself is growing as a total proportion of the market?

It's all of the above.

I believe we're taking share, and I believe that the market is continuing to recognize the power and the efficacy and the cost effectiveness of applying auto setting technologies to patient care.

And I guess a follow-up to that, is the price premium that you realized on auto setting devices changed or is that still holding despite category -- ?

It remains the premium priced product in our CPAP, APAP line; and the premiums, that's sort of a moving average over the last couple of years.

You know, it's -- there's been some ASP reduction in all products over the last several years, certainly the auto set has also experienced that.

I'd say on a percentage basis, probably not that big a change; a dollar basis obviously it would be less as the ASPs change.

But really it's -- I think it's about the power of the auto setting technology.

We've done quite a bit in the last year to improve the way that we communicate the difference.

You know, in the past, we talked about it quite a bit.

We tried to educate using clinical papers as an example, and those are powerful tools and they're very accurate and substantial tools.

But we've also found ways that we could -- we could use tools that can demonstrate for individuals exactly how those algorithms are working and how they compare to competitive technologies, and we've enabled our sales reps to be able to do that demonstration.

So we found that the more the customer understands the difference between our auto setting technologies and others and the difference between auto setting technologies and CPAP, the more prone they are to consider auto set as a solution for their patients.

So this is completely independent of (inaudible) testing possibly driving a shift towards APAP?

I think at this point it is independent; but I think you make a good point that as home sleep testing rolls out, we believe strongly that the auto setting technology can play a very important role in cost effectively delivering that -- the home sleep testing solution -- over time.

So I think that's yet to come -- the benefit of that.

Great.

Thanks very much, guys.

You bet.

And your next question comes from the line of Jason Mills with Canaccord Adams.

Please proceed.

Hi, this is Jim (Inaudible) for Jason.

Two quick questions, one is on international.

Can you give us your estimate for the international market growth?

Yes.

So, you know, historically what we've said is we believe the market internationally is growing somewhere in that 10 to 15% range, and we've said in the last several quarters we think it's probably closer to the 10% range.

I think that we feel comfortable saying it's stayed around that level; and if it wasn't for just a slight timing bump in the ventilation side of the business, I think you would have seen us there.

Okay.

And the second is just on the macro economic environment, you said you didn't see any in this calendar Q4.

But qualitatively, are you hearing anything from sleep labs in terms of them decreasing, you know, any of their estimates or, you know, beds or anything like that?

No.

You know, it's a question -- and obviously we've got a lot of these questions our Q3 or last quarter, as so many different businesses and so many different health care businesses were impacted by the economy.

You know, we said then and we continue to believe, which is we simply were not seeing the impact that others in the health care community and general business environment were seeing.

So, you know, I guess my summary is, you know, we remain cautiously optimistic.

We'll keep an eye on it, but feeling good at this point.

All right.

Thanks a lot.

Good quarter, guys.

All right.

Thank you.

Your next question comes from the line of Ben Andrews with William Blair.

Please proceed.

Good afternoon.

Can you guys hear me?

Yes, we sure can.

Great.

Kieran, maybe two questions if I may.

First, you know, maybe one for Brett.

Can you isolate the -- kind of the trend in gross margin by the end of the fiscal year, just forgetting about currency.

I know there's a lot of moving pieces, but absent that you're still comfortable with kind of getting north of the 60% range, or is it going to take you a little bit longer to get some of the benefits from mix and manufacturing?

Brett, have you got --

Well, yes, I mean, some of the -- the manufacturing improvements obviously take longer term to slide through because they've got to roll through inventory and then inventory has to be sold and so on.

But we're actively working on all of those; and while not all of it would be through in this fiscal year, certainly as you look through FY '10 you'll certainly see benefit and you have things -- even Singapore manufacturing, for example, as that ramps up -- that will also improve our cost base, particularly if you look through FY '10.

So there's a number of actions we're undertaking independent of the currency that are purely designed to improve our margins and to make us more competitive; and then overlying that, obviously, is, you know, margin improvement from the currency, which has really been a headwind for us for the last few years as the currency ramped up -- the Aussie dollar -- and it's really coming back to what you consider more historical levels or historical range.

I mean the Aussie over $0.90 happened last year and didn't happen since -- you know, it didn't happen since the mid-80s that it was over that level.

So it was a real aberration, I believe, in the Aussie dollar, but having said that, I'm not trying to predict currencies -- they're extremely volatile, but we're in a range that's probably more of a historical context.

Okay.

No, that's helpful because, again, obviously, it's a multi-year process to push that gross margin.

But the other aspect of the question I'm really asking, is two years out, Kieran, structurally, you know, if you didn't get any more tailwind from currency, for example, where would the gross margin be in your view?

Would it be static or would it be, you know, lower or higher?

No, we still believe that we have opportunities for margin expansion.

If I go back to what we talked about two or three quarters ago about the -- you know, the various areas that we were focusing on to drive market expansion, and part of it was cost savings.

Part of it is design of products and the way that we design new generations of products.

Part of it is cost savings throughout the system overall.

And of course it's also investing in innovation because, you know, one of the key ways of maintaining margins over time is bringing innovative products to market that mean something to the patient and mean something to the customer.

And it's one of the reasons why we continue to invest so heavily within the -- within R&D and why we're so pleased with the progress that we're seeing with the SPU's leadership of those teams.

So we're not counting on currency at all.

I mean as Brett --

I understand.

It's a combination of product mix and those manufacturing synergies; but what everybody is really trying to figure out is, is there going to be yet another structural shift in price over the next two or three years beyond your ability to out-innovate that would structurally hurt the gross margin?

And I understand what you're trying to do with the business and, you know, you're controlling the things you can control.

But that's sort of what I'm trying to understand a little bit better.

Yes, well my viewpoint on it is -- understanding, of course, none of us have crystal balls, right -- is that if you look at, you know, historically this industry and you look at where it's moved, there's a couple of very positive signals in my opinion for this industry.

One is the kind of price movements we saw last year were quite unusual, and it's the kind of things you only see maybe every five years at best.

The second part is, I think it's helped that we've had Phillips introduce itself into this industry.

You know, it's a business that historically has been known to compete on innovation and market expansion, not on price.

All right, so now you've got two players that represent a good 80% of the market who both believe in market expansion, in driving innovation and in creating value within that industry.

I think that's a good thing for the long-term health of this marketplace.

And on top of that, you have this continued recognition and understanding of the role that sleep disorder breathing plays in very, very costly comorbidities, such as diabetes and congestive heart failure, right?

So, you know, I think we're pushing in the right places.

The industry structure has evolved in a very positive way.

We've got the kind of innovation in the product line that in my opinion serves this market very well and suggests that we should see a very solid, very comfortable market here in the coming years.

Okay.

No, that's helpful.

And the last thing I'll ask is the international growth, you know, about 8%, that sort of falls at the lower end of maybe the range of expectations for that business over time.

What were the issues, if any, in the quarter, or was this sort of a difficult comparison or, you know, is Germany coming back?

Just maybe talk about international a bit.

Sure.

Yes.

So we've got some markets that are doing incredibly well in the international market.

You know, Japan -- France did very well last quarter, UK did very well.

We've got some real big winners throughout that.

The big issue we had last quarter, as I reflected before, was ventilation.

And remember, ventilation is really a -- mostly a European business, a little bit in Asia.

It really doesn't influence the Americas much at all.

And we had that VS 3 introduction where we didn't start shipping in this quarter, so you had sort of a short-term anomaly there.

And I think that the ventilation business overall is one that we're certainly going to keep a close eye on simply because, you know, it's a loaner pool market and there's always the opportunity to look at depreciation cycles of these products, et cetera.

But it was really, you know, a -- an isolated situation that we think we can bounce back from.

Great.

Thank you very much.

And your next question comes from the line of Michael Matson with Wachovia Capital Markets.

Please proceed.

Hi.

A question on your R&D spending.

It was up quite a bit on a constant currency basis.

Just wondering if we can expect it to stay that high for the remainder of the fiscal year?

And if the Australian dollar was to strengthen, is that something that you could rein back in if you needed to?

Yes, sure.

Yes, thanks for the question.

Remember we -- in the R&D line, in addition to core product development, we also have the survey (inaudible) clinical study -- and just remind everybody, that's a clinical study that we've been engaged in multi-national, multi-site ,that is focused on the use of adaptive ventilation in heart failure patients.

And so it's sort of rolling through and it wasn't in any material way on the base year.

So that represents part of that growth that we're seeing.

And certainly, like all clinical studies, those are the things you can review from time to time and make decisions on, you know, what you want to do with them.

As far as the rest of the R&D line, we certainly have the ability to adjust that should we decide, but I'll reflect back on the comment that Brett made.

You know, our intention is to continue to invest in R&D throughout the economic cycle.

We strongly believe that innovation is critical in this marketplace, to continue expanding it, to maintain a very solid and appropriate margins throughout this and for us to enjoy the market share that we enjoy.

So we certainly do not have any intentions of taking the foot off the accelerator, although we always have that option should we decide to exercise it.

Okay.

And then with regards to the economy, I know that you're not seeing an impact so far, but would -- do you think you would see a greater risk with the US or the international markets?

And with your product segments, masks versus flow generators, which of the two do you think are more economically sensitive, if you will?

Real hard question to answer, right?

I mean, you know, I think -- I think all -- what we've seen throughout the globe is we're not seeing that the economy and the challenge -- because it is already affecting people throughout the globe.

We're not seeing differential impact in one market versus another.

I suppose you could look at, you know, Australia, which is a very, very small market for us.

But, you know, that's a private pay market.

You know, I -- if your conjecture, I'd say well maybe that would be one that might be a bit more under pressure; but, you know, in the other markets, you know, we're seeing reimbursement either through the government or we're seeing reimbursement through a mixture of government and private pay.

And so I think there's some pretty common dynamics there; and again, I think that's worked in our favor.

Okay.

Thanks.

Your next question comes from the line of Dan Hurren with UBS.

Please proceed.

Well, good morning, gents.

Just want to ask a question in regards to the mix shifts.

We've been hear ago little bit about the changes in compliance rules in the US that is driving the home health care dealers towards the higher end products with better dialoguing capability.

Just wondering if you can comment on that, and where is that?

Is that just stiffing up or is there more to come?

Yes, that's a great question.

There's a lot of good things that are happening from the perspective of product mix in that category.

So basically, what you're referring to, particularly in the Americas or the US, there was -- CMS was stepping up its requirements on how it was requiring HMEs to collect and report compliance, and how compliance was defined.

And quite frankly, that plays in our favor and it plays in the favor of HMEs that focus on good care, too.

So the idea that is that patients -- you need to be able to collect this information in order to prove compliance over time.

The way that our systems are designed, you -- when you download the information, for instance, with a card, all right, the information continues to reside on the flow generator itself.

So let's say you measure your compliance, you have your card and something happens to it -- it breaks, it bends, it falls in the garbage, whatever.

You lose, you know, $8.

Our competitors, when you download the information onto their card, it stays with the card.

So if that card gets lost, if it fails, if something happens to it, it's gone -- the information is gone.

So the cost is not $8, it's the ability to capture the revenue that's associated with the billing of that.

So, you know, that might be an 800 or a $1,000 dollar card that you've just lost in essence, right?

So the way that we've designed our systems with that redundancy -- that natural redundancy -- has been recognized by HMEs because they've realize it reduces their risk in today's environment.

So a very, very positive change as far as we're concerned.

And just potentially a follow-up.

Is there a potential with these rule changes and with the move toward the dialoguing of higher end devices, is there potential for the lower end manufacturers in the market who don't have that capability to be pushed out and marginalized over time?

I think it's a difficult place to be if you're in that part of the market.

You know, this is -- you've got a bit of Moore's Law going on here, and you have systems that are highly capable.

You know, a good example of that is the bilevels, the auto bilevels, which is an absolutely phenomenal product.

We're hearing rave reviews from sleep physicians who in some cases have dramatically increased -- as in 4X -- the percentage of their patients that they're putting on bilevel because the auto bilevel is so comfortable, all right?

Very, very powerful.

The VPAP Auto 25 is what I'm talking about.

Now, the low end machines, where you're just, you know, not collecting data, you're not able to provide the information that is going to be required by -- that is required by CMS and likely to be followed by other insurance companies, you can't do it, then, you know, you can't even be considered.

So, you know, these changes play to our favor and we're already seeing that happening.

Okay.

Thanks, gents.

You bet.

Your next question comes from the line of David Stanton with ABN-AMRO.

Please proceed.

Thanks, guys.

Hey, David.

Look, could you tell us if there's any updates or do you have any more color on the home (inaudible) decision in the US in terms of, I guess, private insurers and/or infrastructure?

Any color would be on that?

I'm sorry, I just missed the beginning -- was that home sleep testing you're asking about?

Yes.

Oh, yes.

Great.

So this has been a fascinating and a critical last 12 months for home sleep testing in the United States, right?

I mean, I think it's always important for us to sit back for a second and reflect over the last year.

And basically what's occurred in the last year is CMS has said home sleep testing is here, it's here to stay; and now it's a matter of how we roll it out and when it gets rolled out.

And so it was a very critical year last year.

And of course, on the private payer side, four of the five largest private payers also jumped on board.

So, you know, Cigna, Aetna, Anthem, United -- and of course with Medicare -- all have recognized and have accepted home sleep testing.

So what we're looking at this year is there is a lot of pilots, I guess is the best way to say it, that are going to be rolling out throughout this year.

It's going to be the year of "how" sleep testing.

So last year was the year of "if", sleep testing and clearly the answer was yes.

This is the year of "how".

And you see our partners, for instance, in the sleep community trying to enact, you know, what our chairman has been talking about for years, which is the hub and spoke model.

They've been trying to live that hub and spoke model and understand how they can, for instance, recapture leakage in the system.

And let me tell you what I mean by that.

You know, you -- about 30% of patients who get a referral into a sleep lab never show up.

That's an historical number.

Nothing new about that.

And the reason they don't show up frequently is because either they don't want to go through the overnight sleep study or there's something to do with the economics, et cetera.

Something tells them that they're not going to show up.

Well, that's the perfect use of home sleep testing.

So we have certain sleep physicians that have been saying, you know what, we're going to go to those referral sources and we're going to try to use home sleep testing as part of that mix.

And they're doing so recognizing that they're going to end up with more PSGs as well, because a number of those patients who get home sleep tested because of comorbidities or because of complexities are still going to need a PSG.

So they're looking at implementing it that way.

You also have other health care providers that are trying to understand what their role may be -- independent diagnostic testing facilities, these IDTFs -- you're probably going to see PCPs -- primary care physicians -- and to some extent other medical specialties taking a look at it.

So I think this is going to be the year where we're going to be watching a lot of these models rolling out and you're going to see technologies that are introduced that will help support that process.

Thanks very much.

Make sense?

Appreciate it.

Yes, thank you.

All right, thanks, David.

Your next question comes from the line of Helen Cameron with Citi.

Please proceed.

Good morning, guys.

I have got two questions around the pricing environment revenue.

I guess the 9.5% cuts come through one-off now.

How should we be factoring that into our projections going forward?

Do we just sort of assume you get 2% less in the bank there?

And also on the relationship with the HMEs and yourselves, is there sort of horse trading going on there as to who gets what in terms of the dollars put in the bank going forward?

Because clearly this -- I guess, some issues going on there as the HMEs get more involved in patient management and get more leverage over your inducer?

So good question.

So if we go back to the -- what you're referring to, which is the Medicare cut of 9.5% which went across a number of different products, not just sleep products -- you know, including oxygen and med-nebs and diabetes supplies, et cetera -- that was all announced back in July.

And actually there was sort of a sigh of relief from the HMEs when that came through, because it took a lot of the questions about what was going to occur and it made it very specific.

And so, you know, it's not new news starting Jan 1.

That's already been sort of worked into the behavior of the customer dynamic over the last six months.

And, you know, one of the things that's interesting about these kind of cuts is the last time there was a significant cut on oxygen and med-nebs, which was about three years ago, it actually preceded one of the biggest growth spikes that we had seen on the sleep side, and the reason is these HMEs are businesses, right?

They've got a lot of fixed infrastructure, these big logistics teams, be it in personnel or buildings, et cetera, and they need to grow their way out of these kind of challenges.

And so when they look around their business, what are they going to do, look to oxygen to grow?

That's more of a zero sum game where it's market stealing that's going on there.

They look at sleep and they see the opportunity for expansion.

And so we've had a lot of conversations just as we did last -- you know, three years ago when you started to involve more of these HMEs about how do I -- how do I win in this environment?

Tell me how I sell sleep even more?

Can you help me with materials so that I can go to my referring physicians and I can teach them about the links with diabetes?

I can teach them about the links with cardiovascular disease?

Help me understand how I can ship more masks.

How do I get from shipping one every 16 months to a customer to trying to replace them on a more appropriate cycle that insurance supports because it's good medicine?

How do I do that and what are some of the tools?

So, you know, these changes where you look at them and on the surface they can say -- you know, you can step back and say, uh-oh, what's coming down here?

The reality of what we've already lived several years ago and what we're hearing from our customers is we actually think this is an opportunity for stimulating growth, because HMEs are businesses and they need to grow themselves out of this.

And are you seeing any shifts -- just as a follow-up on that -- on the relative, I guess, sharing of the pie between yourselves and the distributors?

Are they getting tougher in terms of sharing of that dollar revenue at the end of the day?

No.

No.

I don't think there's been any change in their behavior, and certainly not with the change in the Medicare pricing.

All right.

And so what you're saying about the revenue line and the 9.5% cut, it's really -- shouldn't it -- another two -- sorry, reduce that by 2% going forward into 2009 because it's basically already been absorbed in renegotiations post July?

Yes, yes.

Look, we -- you know, historically, we've always said in this marketplace you look at somewhere, you know, 3, 4% price decline over the course of the year and some years it's bigger and some years it's less.

Clearly what we experienced last year was a bigger year, right?

And I think that puts us in good position as we come into this year.

So it's -- I'd say there's nothing unusual about what's going on right now.

Okay.

Thanks for your help.

You bet.

And your next question comes from the line of Matthew [Pryor] with Merrill Lynch.

Please proceed.

Good day, guys.

Just the first question in terms of some visibility emerging on US health policy within the new administration.

Can you just comment on, I guess, increased coverage, especially in terms of diagnosis and how that will affect the market in the US?

And also in terms of the comparative effectiveness with funding for studies there around 700 million?

So change in administration, the short answer is certainly at this point we're not seeing anything that changes for our industry, right?

So, you know, like everything else, we'll all have to, you know, keep a watching brief on it, but, you know, we're -- certainly nothing new news with the change in the administration at this point.

You know, most of the changes that we've seen from a legislative point in the last year have been actually quite positive, because I think the biggest change that you've seen -- I don't know if you would call it legislative, but certainly coming down from CMS -- has been the introduction and the evaluation of the use of home sleep testing.

And it's being pushed because what they're trying to do is to make sure that they're spending appropriately -- that you're using, you know, the most cost effective way of reaching the most patients possible.

The good news for sleep is that we are involved in some of the most expensive comorbidities on the planet.

You look at diabetes, you look at heart failure, we are right in the center of that.

And the data that came out within this last year has been -- or the validation, because the data has been coming out for years, quite frankly -- but the validation by the world bodies -- The International Diabetes Federation, the European Society of Cardiologists -- had said, you know what, CPAP is the gold standard treatment for sleep disorder breathing -- it is a cost effective way of getting in there and treating these patients.

You should be looking for these breathing disorders in those patients.

So I think the way that things are playing out here bode well for us, because we are good health care and by treating sleep disorder breathing, it is a cost effective way of treating patients.

We're in a -- you know, we are -- in my opinion -- and in our opinion -- we are where you want to be in health care right now.

Thanks.

And just tying that into my follow-up question, you had a very strong US quarter and obviously that was devices and masks.

I know that there's obviously both upgrade sales in there from existing patients and new patients, also.

If it's upgrade sales, the echos to compliance, and that's great for obviously home testing; and if it's new patients, it increases the installed base.

Can you just give us some indication as to of that growth, which was greater -- upgrade sales from existing patients or new patients coming on board?

Yes, you know, we really don't have visibility to break that out for you.

We sell to the HMEs and the sleep physicians.

They jealously guard their patient -- as they should -- their patient lists, and so we don't get into discussions in order to get disclosure about what percentages to existing customers versus to new customers.

I will say that over time, existing customers are becoming more and more important; and that's a good thing, because as the pie of diagnosed population continues to grow, they represent the opportunity for annuity streams and of course those annuity streams, primarily masks and accessories, are the highest profitability parts of our product line.

Thanks.

Just -- sorry -- a follow-up on that one.

Do you track the -- obviously the metric of masks to devices as a metric of compliance?

You know, it's a faulty measure of compliance because anybody -- you can use masks and flow generators independently of one another.

You don't sell on a one to one basis.

So using that as a proxy can be a very confusing way -- and in fact, a misleading way -- of making some assumptions on that ratio.

Sure, no problem.

Thanks, guys.

You bet.

Next question comes from the line of [Saul Hatterson] with Credit Suisse.

Please proceed.

Thanks for taking my call.

Just a quick question.

You mentioned the Apnea Link product that now meets regulatory requirements.

I'm just wondering, is that an area that you're now looking to compete more heavily in the whole diagnostic side with home diagnosis coming through?

Well, you know, we've had the Apnea Link product now for a number of years -- and in fact, it was developed by our German subsidiary -- and we've continued to expand off of that base.

So, you know, our intention is to continue investing in that platform.

It is a very sensitive, very accurate device, incredibly easy to use, and the advantage that it has is, you know, many of the home sleep testing devices that exist today were very complex devices that the manufactures are trying to strip down in order to meet the -- let's say the Type 3, as an example, the Type e testing requirements -- which means they have the infrastructure of a much more expensive unit.

We on the other hand have built from the simplistic and have been adding feature sets over time.

In fact, the Type 3 device we intend to introduce before the end of the year.

So it puts us in a very good position, because it's both easy to use -- which is what you want in a home care environment -- it is very accurate, very sensitive -- which is what you want out of a device -- and it is very cost effective.

So it's -- it positions us well.

But when push comes to shove, diagnostics from our perspective is still the enabler.

Therapy is what, you know, the long-term business model is really built on.

Okay.

Thank you.

All right.

Thanks.

We are now at the one-hour mark, so I will turn the call back over to Kieran Gallahue for his final remarks.

Well, thanks, Eric, and thank you all for joining us, as always.

And also, as always, I want to thank our employees all over the globe and in their various functions for what was clearly their stellar efforts that drove ResMed's performance this last quarter, and in fact over the course of our history.

So I want to say thank you to all of those employees, and I can tell you that we are all very excited about our future here.

We have got high margin, exciting new products rolling out over the course of the next year.

We have got new policies that have been approved for the use of home sleep testing; new national accounts, contracts to implement; we've got a very, very strong balance sheet with excellent cash flow.

And once again, we have an absolutely stellar team to continue on the execution.

So a lot of good things going on in the Company and the industry.

I want to thank you all for joining us, and we look forward to updating you on future calls.

Thanks, everybody.

And thank you for your participation in today's conference.

This concludes the presentation.

You may now disconnect.

Have a good day.