瑞思邁 (RMD) 2014 Q3 法說會逐字稿

Welcome to the Q3 2014 ResMed Inc.

earnings conference call.

My name is John, and I will be your operator for today's call.

(Operator Instructions).

Please note that this conference is being recorded.

Thank you all for joining us today.

Before we begin, ResMed has asked me to remind you that during this call ResMed made make forward-looking statements, such as projections of future revenue or earnings, new product development, or new markets for the Company's products.

Risks and uncertainties exist that could cause actual results to materially differ from those in the forward-looking statements.

Additional information about factors that could cause actual results to materially differ from those in the forward-looking statements is included in ResMed's SEC filings, which are available on the Company's website.

Please limit your questions to two at any one time.

If you have additional questions, please return to the queue.

Speaking on the call today are Mick Farrell, CEO; and Brett Sandercock, CFO.

There are also other members of the management team present that will be available to answer questions.

I would now like to turn the call over to Mick Farrell.

Mick, please go ahead.

Great.

Thanks, John, and thank you all for joining us today.

As usual, I'll review the highlights of our fiscal Q3, and then I'll hand the call over to Brett to go through the quarter in more detail.

So, first, the financial summary.

Global revenue in the third quarter of fiscal 2014 grew 4% year-on-year to $398 million.

That is up 3% on a constant currency basis.

Americas revenue was flat on a year-over-year basis, at $216 million.

Europe, Asia, and Rest of World headline revenue increased 8% for the quarter to $182 million, which is 6% growth in constant currency terms.

Net income for the quarter increased 6% to $90 million.

GAAP EPS increased by 9% to $0.63 per share for the quarter, while hybrid earnings per share -- which excludes the amortization of intangibles -- was $0.64 per share.

This bottom-line result demonstrate strong global operating performance from our global team.

Now, let me review the operating results in a little more detail.

We look at our sales performance in the Americas in the context of year-on-year, as well as sequential quarterly results.

Last year in Q3 of fiscal 2013, we grew Americas revenue by 13%.

Given this tough comparable and challenging market conditions in the US, keeping our top line flat on a year-over-year basis was a good result.

Also, I'd like to note that we grew the Americas revenue sequentially by 5%, or around $9 million, from Q2 to Q3.

By category, in the Americas, revenue from masks grew by 2%.

Flow generators declined by 2% year-over-year.

We were up against very tough prior comparisons in the flow generator category, which grew at 21% during Q3 of last fiscal year.

It's important to note that both of these categories, on a sequential basis, were an uptick from Q2 to Q3.

US market dynamics began to improve in Q3, although the environment is still evolving.

New patient growth, while still subdued, is continuing.

And, importantly, resupply to the installed base of patients is also growing.

We continue to promote resupply, and a nationwide research study we commissioned recently confirmed that resupply programs work.

They provide better care for the patient and better results for the home care provider, and better outcomes for the payer.

Our customers are also beginning to see stability in their businesses.

As they adjust to the US reimbursement changes from competitive bidding that went into effect in July last year for Medicaid patients in CB2, many customers are growing back to -- getting back to growing patient volumes.

These leading indicators tell us that the US market is starting to stabilize.

In January, just 90 days ago, in our Q2 call, we said that we were going to adjust our pricing in response to competitive activity, particularly in the US market, and that played out during the quarter.

We regained share during the quarter, although pricing adjustments were an offset to those volume gains, resulting in a flat quarter, in revenue terms, for the Americas.

The US market remains a highly competitive dynamic.

And going forward, we are going to make sure we are appropriately positioned for revenue growth as the competitive environment develops.

We'll continue to use our innovation and our value propositions across the categories, including products, services, and solutions, to shape the variables that drive product preference and purchasing decisions.

Our sales results for combined Europe and AsiaPac and Rest of World were led by constant currency growth in the mask category of 14%.

The flow generator category across Europe, AsiaPac, and Rest of World was 2%.

We see upside for growth in this flow generator category going forward, with the launch of our respiratory care platform in these regions.

And I'll talk a little bit more about that in a few minutes.

Europe delivered another quarter of very solid revenue growth in Q3, as it did in Q2.

Our wholesale businesses did particularly well in major markets -- France, Germany, and the UK -- as well as across our European dealer network, which includes the emerging Eastern European acquisitions that we talked about last quarter -- Poland and the Czech Republic.

Our teams in Europe are well positioned for the fourth quarter of our fiscal year.

We remain on track with our previously announced product introduction plans.

We launched the AirFit P10, as promised, during the last quarter, and that product is selling very well in the US.

It is just launching, as we speak, into Europe and Asia-Pacific.

During our last conference call, we promised to deliver two additional new masks to the market this fiscal year.

We delivered on that promise this week, with the launch of two more AirFit-branded mask offerings.

The first, the AirFit F10 -- where F stands for full-face -- is the lightest full-face mask on the market.

The AirFit N10 -- where N stands for nasal mask -- is a new patient-preferred nasal mask that is highly unobtrusive, and allows patients to have clear line of sight.

These products deliver what patients want most: a light, comfortable, unobtrusive mask that is easy to use.

Our pre-launch testing demonstrated that patients prefer these new mask offerings to those currently on the market, and we expect physicians and providers will like them, too.

We're launching both of these new masks during Q4 in the US and most other geographies, and we will continue the launch throughout Q1 in fiscal 2015.

In the flow generator category, we are delivering on our commitment, as we said, and are moving forward to full commercial launch for our new respiratory care platform, the Astral.

The Astral is a new life support ventilation system that has competitive advantages in size and weight.

And it's being very well received by patients and providers during the controlled product launch that we've been conducting in Europe during Q3.

This product solution will enrich life for patients with chronic obstructive pulmonary disease, or COPD, and neuromuscular disease.

We are now ready to move to full commercial launch this quarter in most of our European and Asia-Pacific markets.

We already have a strong homecare ventilation presence in these regions with a channel that's ready to go.

And the Astral will complement our existing respiratory care product offerings.

We're in process for FDA clearance.

Our 510(k) is submitted in the US, and we hope to launch in the US later this calendar year.

The hard work of our research and development teams is bearing fruit this quarter, with the multiple product launches across the globe running on schedule.

And the strength of our design capability was recently validated when both the Astral and the AirFit P10 were awarded Red Dot Design awards.

This is a global, prestigious, international product design competition -- in fact, the largest design competition in the world.

And these two awards join our award from a few years ago -- I think it was 2010, when we received the Red Dot for the S9 platform.

Our clinical research continues to demonstrate the wide-ranging impact of sleep-disordered breathing on a variety of chronic conditions.

I want to highlight three recent publications in this space before we go to Brett and then Q&A.

First, on the clinical development front, there have been several recent studies suggesting intriguing links between sleep-disordered breathing and cancer.

A pair of studies from 2012 and 2013 suggested an association between sleep apnea and increased risk of cancer incidence and mortality.

Here in 2014 already, just earlier this month, Dr. Sina Gharib and his colleagues published a study in Sleep, concluding that effective therapy of OSA with CPAP is associated with alterations in circulating leukocyte gene expression.

They suggested potential novel mechanisms, linking OSA with cancer-related pathways.

It's too early to understand the workings of the relationship between obstructive sleep apnea and cancer malignancy, or the interactions of CPAP therapy with cancer progression, definitively.

However, these early investigations confirm the systemic impact of sleep-disordered breathing, and the potential benefits offered by our therapies to patients in this category.

Second, in a more commercially oriented study, Dr. Julian Guest and his colleagues are publishing a study in May, and it's already online in the journal Diabetes Care.

They are reporting on a resident-sponsored, UK-based study on a cost and outcomes data over a five-year period, treating patients with type 2 diabetes and concomitant obstructive sleep apnea.

This study concluded that initiating treatment with CPAP in OSA patients with type 2 diabetes leads to significantly lower blood pressure and better control over the diabetes, and it affords a cost-effective use of healthcare resources.

So it improved outcomes, and at better costs.

Third, and on the healthcare informatics front, the upcoming American Thoracic Society, or ATS, 2014 meeting, which will be here in San Diego next month, will feature a presentation demonstrating that our U-Sleep automated adherence and compliance program achieved positive patient outcomes, with significant reductions in labor.

The abstract of this presentation is already available online on the ATS website, so it's in the public domain.

And it shows that in a randomized trial, with one group receiving standard care, another group receiving standard care plus help with our adherence system called U-Sleep.

The U-Sleep cohort achieved 83% adherence, whereas the standard care group achieved 73% adherence.

The U-Sleep system also produced a 59% reduction in labor -- that's 5-9 -- 59% reduction in labor for those improved outcomes.

This is a validated example of the solutions we bring to our customers to promote not only superior patient outcomes, but also improved customer efficiency, in thinking about both the healthcare clinical outcomes and the healthcare economics of the channel.

So, finally, and in conclusion, we remain focused on the long run.

Our markets remain under-penetrated, and our patient solutions provide symptomatic relief for those on therapy, while slowing the progression of important chronic diseases, while additionally saving money for the entire healthcare system.

We have the right solutions; we have the right people; and we have the right approach to succeed.

And we're confident that we will continue to do so.

So, now, I will turn the call over to our Chief Financial Officer, Brett.

Brett, over to you.

Great.

Thanks, Mick.

Revenue for the March quarter was $397.8 million, an increase of 4% over the prior-year quarter.

In constant currency terms, revenue increased by 3%.

Income from operations for the quarter was $104.7 million, an increase of 9% over the prior-year quarter.

And net income for the quarter was $90 million, an increase of 6% over the prior-year quarter.

Diluted earnings per share were $0.63 for the quarter, an increase of 9% over the prior-year quarter.

Gross margin for the March quarter was 63.3%, an increase of 90 basis points compared to Q3 FY13.

On a year-on-year basis, our gross margin benefited from manufacturing improvements, favorable product mix, and favorable currency movements, partially offset by ASP declines.

Looking forward, we expect our gross margin to be in the range of 61% to 63%, assuming current exchange rates.

Additionally, we continue to execute on initiatives targeting at improving our global manufacturing supply chain and logistics cost structures.

SG&A expenses for the quarter were $115.1 million, an increase of 5% over the prior-year quarter.

In constant currency terms, SG&A expenses increased by 7%.

SG&A expenses as a percentage of revenue were 28.9% compared to the year-ago figure of 28.6%.

Looking forward, and subject to currency movements, we expect SG&A as a percentage of revenue to be in the vicinity of 29% for fiscal year 2014.

R&D expenses for the quarter were $29.5 million, a decrease of 5% over the prior-year quarter.

In constant currency terms, R&D expenses increased by 7%.

R&D expenses as a percentage of revenue were 7.4% compared to the year-ago figure of 8.1%.

Looking forward, we expect R&D expenses as a percentage of revenue to be in the range of 7% to 8% for fiscal year 2014.

This reflects an ongoing commitment to investing in a diverse product pipeline.

Amortization of acquired intangibles was $2.5 million for the quarter, while stock-based compensation expense for the quarter was $11.2 million.

Our effective tax rate for the quarter was 20.3% compared to the prior-year quarter effective tax rate of 21.4%.

We currently estimate our effective tax rate for fiscal year 2014 will be in the vicinity of 21%.

Turning now to revenue in more detail.

Overall sales in the Americas were $216.1 million, consistent with the prior-year quarter.

Sales outside the Americas totaled $181.7 million, an increase of 8% over the prior-year quarter.

And in constant currency terms, sales outside the Americas increased by 6% over the prior-year quarter.

Breaking out revenue between product segments.

In the Americas, flow generator sales were $93.9 million, a decrease of 2% over the prior-year quarter, while masks and other sales were $122.2 million, an increase of 2% over the prior-year quarter.

For revenue outside the Americas, flow generator sales were $118.8 million, an increase of 4% over the prior-year quarter, and in constant currency terms, an increase of 2%.

Masks and other sales were $62.9 million, an increase of 17% over the prior-year quarter, and in constant currency terms, an increase of 14%.

Globally, in constant currency terms, flow generator sales increased by 1%, while masks and other increased by 6%.

Cash flow from operations was $101.1 million for the quarter, reflecting strong underlying earnings and working capital management.

Capital expenditure for the quarter was $17.8 million, while depreciation and amortization for the March quarter totaled $17.2 million.

Our share buyback continues to play a major role in our capital management program.

During the quarter, we repurchased 1.64 million shares for consideration of $72.5 million.

At the end of March, we had approximately 19.1 million shares remaining under our authorized buyback program.

In addition to the share buyback, our Board of Directors today declared a quarterly dividend of $0.25 per share, consistent with our previously advised dividend policy.

Our balance sheet remains strong.

Net cash balances at the end of the quarter were $543 million, while at March 31, total assets stood at $2.4 billion, and net equity was $1.7 billion.

I'll now hand the call back to the operator for your questions.

(Operator Instructions).

David Stanton, CLSA.

I wonder if -- I've got two questions, please.

Firstly on bundling, we've been hearing stories about the fact that there perhaps might be bundling from competitive bidding coming.

I'd like some color on that.

And then just one for Brett on gross margin going forward.

You've guided to 61% to 63%.

I presume that's for FY14.

Can you give us some color about why the guidance is down for gross margin?

Thank you.

David, thanks for the question.

I'll take the first part; I'll hand the second to Brett.

Bundling at CMS -- yes, we don't know where CMS is going with this.

They have introduced a discussion item, and asking for providers and other physicians in the industry to give feedback.

There are two ways to look at this.

If CMS does decide to implement bundling, ResMed is not only ready, willing, but also able, to respond to a market like that because we already are in one.

In France, we have a bundling model where providers are paid a fixed amount per member, per month, to look after patients on sleep apnea therapy, and we work with them.

There are certain minima in terms of the number of masks that they have to provide; the number of visits they have to provide; the number of tubing, accessories, and filters; and interaction with the patients.

And so our assumption is that CMS, if they did go forward, the bundling approach would have such minima in their programs.

Looking at it from another angle, there was a recent OIG report that looked at the replenishment rates that are currently there for CMS patients in the US.

And what it found was that for the vast majority of patients, they are well under half the maxima requirements by the different category units for existing competitive bidding programs.

So, we don't think it is way up on the radar.

And in response to that OIG report, CMS decided to stay with the current system.

So, from our perspective, we'd be ready to go with either a bundled model or a not-bundled model.

It will be interesting to see where providers land on this.

But I think that no matter where the market goes, we will be prepared to move with it on that front.

Brett, do you want to take the second part of the question regarding gross margin?

Yes.

Thanks, Mick.

Yes, on that gross margin front, we sort of ticked it down a little bit.

And, look, it really is a reflection of some of the ASP declines that we've seen recently.

And I think that had some impact on our margin in Q3.

And we just down-ticked a little bit, in terms of margin guidance, to account for that.

And the other factor, I suppose, that's been helping us out over the last little while has been some FX benefit, particularly with the depreciation in the Aussie dollar.

That's flattened out somewhat now.

So those FX benefits, I think, were certainly far less than what we have experienced in the past, particularly if you look at it on a sequential basis.

So, they are kind of those two are the underlying drivers of the slight decline expected in the margin.

So, just to confirm, that's an overall -- that 61% to 63%, that is an overall number for the rest of FY14 -- or 2014, sorry?

Yes.

As you know, Dave, a lot of moving parts on the margin, so it gets more difficult to predict.

But, yes, that is more a Q4 short-term prediction on the margin.

Okay, so that's Q4.

Thank you.

David Clair, Piper Jaffray.

The first one is just on pricing.

You mentioned in the commentary that you have done some pricing adjustments.

Are these largely done, at this point?

Sure, David.

Well, pricing is an interaction between us and our customers on a day-to-day basis.

It's a supply and demand interaction that goes on.

If you're asking specifically whether the effects of CB2, particularly on our US market, is playing out, then I think the answer is yes.

We're nine months into the playout of CB2 within the US market, and we're 12 months into when the prices were announced for CB2 in the US market.

So, clearly, our customers have known about this for 12 months, in terms of the new pricing.

We've been working for them over the last nine months.

And I think, clearly, in the last quarter, we sent a strong signal to our customers that we are here to work with you.

But I'd like to make the point that we're here to work with them on two fronts.

We're here to work with them on pricing and terms, but we're also here to work with them on business efficiency.

So we have the ResMed online store, which provides HME partners with automatic access to [order] 24/7, 365, on ResMed.

We have electronic data interchange, which not only large nationals, but now a number of the regionals are getting involved with.

We have EasyCare Online, which is an informatics platform available to all our customers.

And many, many more patients every day get connected with EasyCare Online.

And our providers find it's a great way to track adherence, drive adherence, and measure outcomes.

And, finally, U-Sleep.

As I mentioned in the prepared remarks, if you've got a trend 10% increase in adherence, and you've got the opportunity to lower labor costs by 59% by partnering with ResMed, then is it all about $1 on the upfront price?

Or is it about $5 saving in the net present value, over a 12-, 24-month time period with the patient?

So we're looking at pricing in multiple variants.

David, what was your second question?

My second question is just -- you described -- it sounds like the US environment is stable to improving.

Do you have any metrics you can provide on patient volumes?

Or I guess any color you could provide would be great.

Yes, I'll ask Jim Hollingshead, our President of the Americas, to address the US market.

Yes.

I think stable to improving is probably the right way to describe it, David.

We don't have -- as you guys know, on these calls, we don't have perfect data on underlying market demand.

We piece together, just like you guys do, too.

And what we're seeing is really decent patient volume growth.

Our general sense is that, as CB2 has stabilized and the Medicare contracts have shifted, a number of the accounts that won Medicare -- a number of our customers that won Medicare contracts -- are actually seeing growth in volume.

The customers who lost Medicare contracts have, in many cases, gone out and worked on referrals that would allow them to capture commercial pay patients.

And so you're seeing some movement in both directions on that front.

We think patient growth remains pretty good, both for new patients and also for resupply.

So, overall, that trend is, I think, fairly solid in the US market.

Then just one last one, if I can sneak it in here.

In terms of AirFit mask launches that are going on right now, do you expect these to carry a price premium to the older masks?

Well, traditionally, David, we've priced our new masks in line with the products that are currently in market.

Clearly we all know that reimbursements generally are moving in a downward trajectory.

And so we need to be able to take cost out of the system by business efficiency, but then be able to ensure pricing is relatively stable.

So, in general, we've kept pricing in parity with our new masks with those in the market, or very close to.

And that's the plan not only for the P10, as you mentioned -- the pillows mask -- but also for the AirFit N10 -- the nasal mask -- and the AirFit F10.

The full trilogy, now, of AirFit masks are in the market, and we're really excited about their potential.

But pricing is going to be pretty much on par.

Great, thank you.

Matthew Prior, Bank of America.

Just two questions, both in relation to Rest of World flow gen, if I can.

Mick, just in terms of the strong comments you made in regards to Europe, if I can just ask any color around France in particular, given that change to informatics regulations as of October -- what you've seen there; whether that's helped you, in terms of patient compliance or the business model.

And then secondly, just given the 4% growth number out of Rest of World flow gen, that still remains somewhat depressed versus prior year.

Can you give us some sense as to whether Japan is still dragging there.

Or ex-Europe, what's going on in terms of Rest of World flow gen?

Thanks.

So, I'll have a go at the France side, and then I'll ask Rob Douglas, our President and COO, to talk about Japan.

The short answer on France is, we don't break out Rest of World, as you know, Matt, into detail.

And, certainly, we don't break out Europe, and then we don't break out France on the flow gen front.

But I can talk to you qualitatively about what's happening in France, which is a very important market for us.

The head of the group that looks at regulatory approval and pricing for this market for us in France established a differential reimbursement model for devices that have wireless capability, and devices that don't have wireless capability.

And it was a planned, sequential, phased, differential between the two different types of product categories.

That was put into place in October last year, and has been running for four months.

There have been some court appeals by some patient groups, and some folks who were involved in the industry, that have slowed down the response on that.

And that is still in the court for deciding what is the best approach.

From the payer front, and from the patient front, we think enabling and liberating the data from the bedside table for the payer, for the patient, and for the provider is the best thing, and we think that's where it's going to land.

Having said that, while this has been in play, we have certainly been able to not only sell our device systems, but also our EasyCare Online system, which was ready to go October 1, 2013, when that was put in play.

So, we are prepared; we're already working with our home care providers in France to make that work; and we see good signals ahead, as that plays out in France.

But I want to say that that play is well beyond just the country of France.

We think that will apply not only in France and Germany and the UK, but also across all of Western Europe, and has high potential in that space.

Rob, do you want to address the Japan question?

Sure, Matt.

Japan remains a lumpy market for us.

It's basically a good market with good reimbursement, and really good focus on patient care.

But how the -- in terms of specific ordering patterns of our customers, and the way their managing their fleets and that type of thing, it remains a lumpy market.

It hasn't been a strong quarter for us in Japan.

Great.

Thanks, guys.

And if I can just have one more in terms of the US, in particular, on CPAP -- Mick, you mentioned last quarter that the price competition was particularly focused in the CPAP category.

Have you seen that bleed into APAP at all, in terms of discounting pressure?

You know, Matt, we don't -- as we said on the last call, we don't go into details on pricing across the whole category of flow gens, and certainly won't go into details on individual categories.

But as a summary statement, pricing impacts have been across-the-board on categories.

And what we're doing is appropriately pricing across SKUs -- but across customers, across segments, across geographies -- for appropriate pricing, to ensure solid volume gain and long-term good revenue growth.

And to signal to our customers that we're there for you during CB2, but also that we are there for you to drive business efficiency, as well as looking at the upfront pricing.

Great, understood.

Thanks, guys.

Bruce Du, CBA.

Yes, can you hear me?

Yes.

You must have been on mute.

Okay, great.

I just had a question in relation to the masks, and specifically around your experience in terms of the AirFit P10, whether you are predominantly seeing that growth in new patients, or you are seeing actual conversions from existing patients; given my understanding, obviously, is that, historically, patients have been quite sticky on masks.

And you guys obviously would have a benefit if you can convert those patients, given the fewer parts in a lot of masks and whatnot.

But just could you talk to your experience, in terms of converting the North American patients, or whether or not the growth dynamic there is mainly existing versus new patients?

Thanks, Bruce.

Well, you're right, in that it is quite sticky.

Like a great pair of jeans or a pair shoes that you love, patients tend to stick to the existing product, even when they go for the new purchase.

And that trend has remained.

The AirFit P10, which we launched in January, is now in day 90 in the US market; and, as we said earlier, is just launching into Europe and Asia-Pacific, as we speak, here in Q4.

So, talking about the US these last 90 days, we're starting that S-curve of penetration of a fantastic new product.

I actually personally use the AirFit P10 every night.

I wore it last night.

And it is an unobtrusive, light, and very comfortable mask.

And it's particularly -- its diffusion of the air is so comfortable for the bed partner, that we do expect great success from it.

But we expect that success primarily with the new patients.

Okay, great.

You referenced before the GAO report; just wondering, obviously one of the things that data point showed was a quite significant consolidation in terms of the market share; the four largest distributors.

Is that pretty consistent with what you're seeing in the Round 2 regions thus far, as well?

Bruce, I'm not sure I get the gist of your question.

Can you ask it one more time, and then Jim and I will have a go at getting to it?

It was just in relation to I guess the Round 1 -- the GAO report recently released showed the concentration of market share in the Round 1 areas, of the four largest DMEs in the US had increased quite considerably over the first 12 months of Round 1. I was just wondering whether or not you had seen a similar pattern evolve in the Round 2 regions thus far.

Dave, why don't you -- David Pendarvis, our Chief Administrative Officer and Global General Counsel.

Sure.

So, Bruce, I'm pretty familiar with that report.

And obviously it was based on some early data.

Round two of competitive bidding, much bigger chunk of the overall US market.

And as Jim was saying earlier, while we're seeing things play out in terms of market share shifts in the winners for Medicare patients, and also in terms of the commercial patients shifting, it's probably too early to say whether there's any significant consolidation along the lines that that report found in Medicare.

So just early days.

You could posit that it would be the case, but we haven't seen it yet.

Okay, thank you.

Michael Matson, Needham & Company.

I guess I was just curious about -- with your pricing adjustments, the timing of that.

I know you discussed it on your last conference call.

But that was already a few months into the March quarter, so is that something that started at the very beginning of the calendar year?

Or was it something that was done mid-quarter?

Because I guess your gross margin guidance for the fourth quarter -- fiscal fourth-quarter, kind of implies that there's some additional declines coming in gross margin.

So, maybe you could just clarify that for me.

Yes.

So, Mike, the call that we did was actually in January, so we were in month one of Q3 when we made the call.

And we said we were going to appropriately price, to ensure volume gains and revenue gains.

And also, as I've been focusing on this call, about the efficiency gains that we can provide, the solutions that we can give to our HME providers.

I would say, those discussions happened throughout the quarter.

With well North of 4000 customers in the US -- and you think, globally, you are in the tens of thousands of customers -- this is something that happens throughout a daily basis, weekly basis, as we interact with our customers.

So, clearly, the spread is throughout the quarter.

Brett's guidance of $0.61 to $0.63 I think is solid.

It takes into account what we have done and have seen, and what we expect to see here in Q4.

So it all makes sense.

And it all makes sense for ensuring we're appropriately priced, have got the appropriate terms, and we focus on the efficiencies we can provide by talking to customers and providing that value to them.

And just so that I get it clearly here, the bulk of these adjustments have already taken place, as of the end of the March quarter?

Is that a fair statement?

I know you are always having these discussions, but I guess this was a bigger-than-normal type of cycle that you went through here.

Yes, look; clearly, Mike, there are many factors involved in the supply/demand, our activity, competitive activity, changes in the market.

But yes, as I said earlier, given that we're 12 months into the pricing of CB2 within the US, nine months into the playout of how it hits the P&L for our US-based customers, that being the largest impact change that's happened on the reimbursement front, I think your assumption is right.

That the bulk of the impact is there, and our guidance going forward is that we're going to work with our customers to make sure it happens.

And we'll be flexible, based on the needs of the market.

Okay thanks.

And then just one question on the Astral family of products.

Is that a completely new product category that you're entering?

Or is that a redesign of an existing product line that you already had?

I will hand over to Geoff Neilson, our President of the Respiratory Care business.

That's a completely new life support product platform.

And we do have life-support products through our Elisee and VS lines available in Rest of World, but we haven't brought these products to the US market.

So this will be a new product line in the US market.

We estimate the global market for that product -- the available market for that product to be around $200 million-something, evenly split between the US and Europe.

So we've got that upside for bringing that product to the US.

Okay, thanks.

And then just one final question on the flow generator business.

I know in the past few years you have been seeing a really nice mix shift towards some of the auto setting and the bi-levels.

And some of that, I guess, was being driven by the move toward home testing.

So, are you still seeing that mix shift happening in that part of your business?

Mike, we are.

Home sleep testing, we are tracking very closely.

And on a trailing 12-month basis, between 35% and 40% of US diagnoses in these last 12 months were through home sleep testing.

With the prior authorization and the focus of insurance companies on this space, the needle continues to tick up on that.

And as you look forward the next six, 12 months, we'll be looking at 40% to 45%, approaching 50%, of diagnoses in the home sleep testing front in that timeframe.

So we think we know that that will start to move up, and we know that that will drive a mix shift from CPAP to APAP on a continuing basis.

We also think the introduction of products like the Astral, with its large, $200 million addressable market, globally -- and then you add all the other respiratory care ventilators that we have in our pipeline, and will continue to introduce -- there's a lot of upside on the flow generator front, in terms of positive mix shift for us.

All right.

Thanks a lot.

As a reminder, please limit yourself to two questions.

Sean Laaman, Morgan Stanley.

Just a couple of quick ones for me, perhaps for Brett; relates to FX.

Just if you could give us, Brett, a bit of a guide on the benefits seen in COGS from movements in FX.

And secondly, what hedge gains were there, or might there have been, in the other income line?

Yes, sure, Sean.

I'll do it a few different ways.

If you just looked at it sequentially, Q2 to Q3, we didn't see any FX benefit at all come through.

It was pretty neutral.

We're still getting some of the benefits coming through if you look at it on a year-on-year basis, so that was in the order of 100 basis points year-on-year was benefiting us; but neutral on a sequential basis.

So, that was the impact there.

And then the other part of that question, Sean?

The hedge gains in the other income line.

Yes, that was in the other income.

It was in the order of a few million dollars.

Perfect.

That's all I have.

Thanks, Brett.

Ben Andrew, William Blair.

I guess a couple questions for us.

Can you give us maybe some other examples of things that suggest to you that the market is stabilizing?

Are you seeing promotions decline?

Are you seeing quarter-on-quarter pricing changes normalize?

Maybe just talk a little bit more about those specific examples in the marketplace.

Thanks for the question, Ben.

I'll address some, and hand to Jim for some other early indicators here.

We talked about this a JPMorgan, and we've talked about it since, but we're seeing primary care physicians' visits start to pick up.

We're seeing referrals from those primary care physicians related to sleep, specifically -- whether they are referrals to a sleep lab for a PSG, or to home sleep testing, IDTF-type models -- increase.

So the needles on both of those are moving up.

There's publicly available data from the payers, and there's some -- from CMS.

And there's some private data that we were able to access from talking to some of the private payers.

All of those show the needles are ticking up, in terms of patient volumes.

So the leading indicators on referrals and on the reimbursement are starting to tick up.

And those indicate, for us, that the stability in the US market is starting to come back, and volume growth is picking up.

We also saw volume growth for ourselves during the quarter.

We're not going to go specifically into that, because we're not releasing our ASPs; and so if we give you the volume gains, you'll be able to reverse calculate that.

And we don't want to do that, for competitive reasons.

But we know the volumes are starting to stabilize and starting to pick up, not just through the early indicators, but through many interactions we have with our customers.

Jim, any more color to add there?

I think it's a great question, Ben.

And it's difficult to point to concrete things, but I guess I would point to two or three things.

The first one is just to reiterate what Mick just said.

Volume growth is strong, and volume growth was stronger in Q3 than it had been over the previous couple of quarters, I would say.

So that's a good indication.

The topic of conversation with our customers is shifting.

Every customer is different, and there's thousands of customers that are different size and different business mixes.

But the conversations we're having now tend to be more about -- how do I stabilize my own product mix?

How do I do X, Y, and Z, to drive profitability?

That's a really different topic of conversation than it was, say, right after rates went into effect.

And so you can see, our customers have worked through some of the chaos that they faced with reimbursement changes and are now stabilizing their own business models, and they're asking different questions.

And we tend to be working with them on things like business efficiency more than we were, say, two quarters ago.

And then I would say, the kind of tone and tenor in the market, just the qualitative feel in the market -- this is a very qualitative thing, but I'd say the vibe is a bit better.

Nobody is happy about reimbursement rates.

None of our customers are, and we are not.

That continues to be a tough pill to swallow.

But the tone and tenor has improved in our conversations with customers, and just generally on the market.

Okay.

And then I guess another question, of the two, for me would be to Mick.

And if you take the gross margin trends, where the currency is at, you've given us pretty specific guidance relative to the fourth quarter, if you will, of your fiscal year.

If we flow that into 2015, is that stable?

Or is that going to take another step lower, because of the move of some currency as we roll that in?

Yes, Ben, as you know, there are multiple factors that go into gross margin, from COGS reductions; mix shift; and exchanges between the euro and the US dollar, the euro and the Aussie, and the US dollar and the Aussie.

We have been able to achieve some fantastic efficiencies through what we're doing in our Singapore plant and growing there.

We're doing some great things on the S9 platform in some of the masks that have been out there for a while.

But at the same time, we're introducing new products, which can have an impact on that.

Our primary focus is on ensuring topline growth and making sure that goes through.

In gross margin, as you saw in this quarter, and our guidance for Q4, can be a tool to help us ensure that we continue to have good revenue growth.

So I know, Ben, you are sort of asking me to posit FY15 GM.

We don't do that.

We put it out 90 days.

And we give that guidance of 61% to 63% that Brett just did, because that is the sort of time horizon that we think we can predict it on, in a useful manner.

So, Q4 -- 61% to 63%.

We're solid with that.

And then in 90 days, we'll get in touch regarding Q1 for FY15.

And maybe just another way of looking at that, is the balance of interests here between volume growth ticking back up -- is your share beginning to tick back up, as you've made these adjustments to price?

Or is share really stabilizing?

Even just qualitatively on masks and/or generators would be helpful.

Thanks.

Yes.

Look, I'll just talk to it generally.

I would say our share not only is stabilized, but probably we took a little bit of share when you think about the global scale.

And we think that's the right position for us to be as the market leader.

Thanks, Ben.

Anthony Petrone, Jefferies.

Mick, to just follow up on the market share comments that you just threw out there.

Was that specific -- it sounds like you've put in a new pricing strategy here in the US, and that had an effect on market share shifts.

So, specifically in the US, did those price changes result in a share gain, say, amongst your large DME customers -- Lincare, Apria, and Rotech, for instance?

Or did you see more share gains on smaller customers?

Just trying to get a sense of how that played out in the quarter.

Thanks for the question, Anthony.

We don't go into the detailed share across the categories, certainly not by individual customer type.

But qualitatively and generally, looking at the US market specifically, we think -- what we said 90 days ago is that we're going to appropriately price to ensure that ResMed remains the market leader, and ensures providing business efficiency for our customers.

We executed on that in the last 90 days, and I do think we got some volume share gain.

And, clearly, there was some price concessions that were part of that.

But more importantly were the hooks we put into our customers for the long-term.

Which is we're working with you; we're partnering with you; and we're going to help you lower your costs.

So it's a high value for you, the patient, and ultimately the payer, who will save as we keep these patients out of hospital and in the home.

But, no, we won't go into further detail on that.

Sure.

No, fair enough.

And maybe just with this new pricing strategy within the US, and it seems amongst the competitors, is there a way where to look out and judge, timing-wise, where -- not necessarily it's a floor, but it goes back to where the normal was.

Which, I think, if we go back a couple of years ago, it was normal to see 4% to 5% price declines in the industry.

It seems like it's more than that now, certainly in the US.

But is there a time where it gets back to normalization?

And then just one quick follow-up on CMS audits.

Thanks.

Yes, Anthony.

So, if you look back at the last five, even 10 years, there are step changes and then there are settling, slow gradient changes that have happened in our industry.

Clearly, we have had a step change.

I'm not going to go into specifics of percentages and year-on-year, as we talked about 90 days ago.

That doesn't make sense for competitive reasons.

But qualitatively thinking about it, there are step changes that happened, and that has happened.

Do we expect that (technical difficulty) stability after a step change?

Yes.

Are we working towards that?

Yes.

Would our customers like it?

I actually think yes; because stability in this market, now that CB2 has been digested, and planning forward now, which is for, how do we get to the 40 million to 60 million Americans, right?

You're talking about the US market: 40 million to 60 million Americans that have sleep-disordered breathing, when we've only got 6 million of them diagnosed and treated.

It's going to happen through stability in the investments in working with primary care physicians; working with patient awareness to drive the patients through to the channel.

We're starting to see that stability, starting to see the needle pop up, and we're going to continue to do that.

So, your third, sneak question there, Anthony, was regard to?

Yes, I apologize.

You attended Spring Medtrade, and there was just this whole focus on CMS audits of DMEs.

I'm just wondering if you have an opinion on that, and how that is shaking out?

Thanks again.

Yes.

Thanks, Anthony, I'll hand that to Jim.

We think that the audit rate and the procedure for audit is a huge burden on our customers.

And we would prefer to see Medicare get their act together.

Fair enough.

Andrew Goodsall, UBS.

Actually, that was a question I had.

That was the hot topic we found at Medtrade, as well.

And I guess Jim answered that just in terms of the intensity there, I guess you would expect to grow.

I guess what my question was, is anything impacting sales?

And is there anything you can do -- I know you've spoken to U-Sleep -- to help the DMEs through that audit process?

Actually, we've seen some stability.

Look, I'm not as close to it as Jim, so I'll let him answer it in a second.

From where I've seen it, and certainly as you look at American Association for Homecare, and a lot of the providers now getting on Capitol Hill and working with CMS to understand how to solve this.

They are certainly focusing on -- audits are important.

Because if there's fraud abuse, you need to catch it and move it out.

But you can't have the one bad apple spoil the whole barrel.

And clearly that's the message from the providers.

And clearly, nine, 12 months into these changes, I think even CMS and the auditors are starting to realize that changing the game, and ensuring these patients stay out of hospital, is the right thing for the US healthcare system.

And, particularly, Medicare going through all the changes it's going through right now, and all the patients coming in with the Affordable Care Act.

So, as we look towards it, we actually see some stability, rather than growing of the audits, in terms of how they are looking at it.

But, Jim, I don't know if you have any color there (multiple speakers).

Well, what I would say is we have very little we can do about Medicare and how they're doing audits.

It's a burden on our customers because, as you guys know, there's a big backlog in audits, and Medicare is not processing them, in many cases, in a timely fashion.

And that hurts our customers' cash flow, because their payments get held up.

And so it is a hot topic, and it's understandable that it's a hot topic.

We don't see any measurable, direct impact on sales, because patients come in the door and they need to get set up, and DMEs will set them up.

But it's frustrating for us to watch what our customers have to go through in that regulatory environment, that is actually not operating efficiently.

So, I think it's a positive that there's a spotlight put on it.

It's something that's been raised, and I think it has been raised also at the Congressional level.

Now it's gotten some scrutiny.

And the OIG has looked at it, and so on.

So, hopefully, there will be a resolution.

I don't know if it's going to get more intense before it gets better.

But as I said, I think it would be better if Medicare could find a way to relieve that, especially the backlog.

It's completely appropriate for Medicare to be policing what DMEs do, what -- in any space that they are reimbursing, and making sure that there's no fraud and abuse, and that patients are being treated appropriately.

But to place an extra burden in terms of volume of audits, and then not be able to process them within their own guidelines, is arguably unfair and needs to be corrected.

I guess the follow-on there is just from a technology front, is there anything that you can bring to the table going forward that might help them with the informatics and the documentation they need to provide here?

I think we're looking at a range of solutions that are business process automation solutions.

Every flow point, every business flow point, for our customers is an area under scrutiny.

And with some areas in development, we're not going to talk about our product roadmap, for competitive reasons.

Sure.

Thanks for your questions, Andrew.

Perfect.

Thanks, guys.

Ian Abbott, Goldman Sachs.

Thank you for taking my questions.

Firstly, just looking at the sequentially -- question for Brett -- looking at the impact of FX on gross margin, heading into Q4.

I know it's been quite volatile over the last few months.

Can you perhaps give a bit of color as to what that impact will be?

Yes, I think going into Q4 -- look, I'd estimate we're at probably a slight positive for us, probably in the order of 30 basis points on a sequential basis.

It will probably [eat] a little bit.

The currency has been jumping around a lot lately; it's pretty volatile.

So I think that you'd probably see a small benefit in Q4.

And then on a sequential basis, you kind of lose that, I think, going forward into Q1.

But it's nothing like what we were getting over the 12 months year-on-year period.

It is starting to certainly flatten out.

Okay.

And then my second question is on the accounts receivable.

That seemed to go up quite significantly during that balanced state.

Is there anything driving that?

And would you think that would normalize going forward?

Revenues are up sequentially, and the receivables would be up.

If I look at the days sales, that's pretty much in our -- how we look at it, pretty much in our historical range that we look at, Ian.

So it might be an uptick in absolute terms, but I think when you look at DSOs, that it looks in the range.

Great.

Okay, thank you.

Steve Wheen, JPMorgan.

I just wanted to ask about the new product launches that you have.

What sort of impact they -- you could expect to see on the gross margin, from perhaps efficiencies in manufacturing processes?

Well, so, we've launched the AirFit P10, the AirFit N10, the AirFit F10, as well as the Astral, so it's quite a complex set of products to talk to.

Rob, do you want to have a go?

Yes.

I mean, again, Steve, we don't break out all the details of this.

But, generally, our policy with our R&D and our product teams is to continually improve products by making them simpler, less parts, and better supplier relationships.

Obviously, as you introduce new products, you then restart on an experience curve, which you then start putting on continuous improvements onto, and that will ramp down.

And then as we go up the learning curve, building initial launch volumes and all of that type of thing, it's quite a complex thing.

So there's many factors at play here.

And then net of it is -- the intent of our product program is to drive cost out of the products, and keep trying to improve them and make them better in many parameters.

And we expect to see that continuing.

Okay.

And just also in the gross margin, we've been seeing that -- perhaps this is a question for Brett -- that mix shift advantage from CPAP to APAP.

Has that largely run out now, that we're -- I would say, probably to move into that sort of shift?

And are we more, now, just particularly in this quarter, seeing mix shift advantages just because masks will be greater than flow generators?

Yes, Steve.

I think, looking over the last few years, you can probably -- that shift, or mix shift impact, has probably moderated over time.

I think it's still there, but it's moderated to some extent.

But I think some of the other new generation platforms -- such as Astral and so on -- as we get through that, as we get deeper into FY15, I think some of those will be supportive of product mix, and then supportive of gross margin as well.

But it's really early -- as Rob said, it's really early days in the launch.

We have three new mask products.

We have the brand-new Astral platform.

And we do certainly see, as we work through a lot of the margin expansion initiatives, that we can drive those costs, over the next 12 months as our experience increases on these new products, and certainly think we can get some upside there.

Whether that plays out in manufacturing efficiencies and product mix, I think there's areas there that are certainly providing potential for us, in my view.

And more specifically to the quarter, was there quite an advantage, just given that very strong mask growth rate, from a mix shift perspective?

You know what?

If I looked at it -- so if I look at it year-on-year, we still had a strong -- if you like, we still had product mix benefits flowing through, and that was meaningful.

If you look at it purely sequentially, it was more of much smaller -- it was a much smaller impact.

Okay, great.

Thanks a lot.

Joanne Wuensch, BMO Capital Markets.

This is Andrew Hanover in for Joanne Wuensch.

I just wanted to ask a couple, or one, strategic question.

And that is in relation to Japan, and what will it take to get Japan on more steady footing?

Andrew, I will hand that question to Rob Douglas.

So, on Japan, it's a long project for us.

It's always been a lumpy market.

And quite frankly, that's just the way that our customers are structured and the way they run their business.

For us, it means it's a very efficient market.

There's only a small number of customers.

They are running these large businesses.

It's good market for us, because we don't need a large team to service it, but we do have the downside of this lumpiness.

So we don't see that type of structure changing at all.

In a sense, some of that lumpiness will continue.

Our view of the Japan market is that underlying it, it's actually quite under-penetrated.

And so our efforts are generally around either providing clinical evidence of the benefit of our products in Japan, or driving demand and patient awareness in the medical system there to drive patients in.

That's got to be offset by relationships with the reimbursement authorities in Japan, so that -- or the funding can all add up to that, as well.

But that's been an ongoing project, and we'll keep on with that strategy.

Great.

And actually one more question, and it's in relation to diagnostic testing.

Back in October, you said that approximately 35% of diagnostic tests were being performed via home sleep testing.

And it was supposed get to 40% to 45% in the US over the next 12 months.

Just wanted to get a perspective or an update on that.

Thank you.

Yes.

So, Andrew, I just said a little earlier in the Q&A that we're a little north of that 35% from October.

We're now looking at 35% to 40%, so the needle is still moving up.

It's not moving up as fast as it was, but it's moving up in that 5% increments over those two quarters.

As we look forward towards October, at the end of this year, we still think it will be at that 40% to 45% area.

And even by the end of the calendar year, that 45% might tick up a little and start to approach 50%.

But it's payer by payer; it's group by group.

And it has really been driven by the payer authorities working with their sleep physicians, and the home sleep testing as well as the sleep labs, to ensure that patients can get through on therapy.

Moving to a scaled one, allowing the mix shift from CPAP to APAP, we see that trend continuing to play out.

Jim, do you want to provide some more color?

Yes, I'd just add a couple of interesting tidbits on that.

The first one is that our data show that, right now, roughly 60% of sleep labs are doing home sleep testing.

And that's pretty dramatic movement over the last several months.

Many sleep labs were trying to avoid doing home sleep testing, but now roughly 60% are engaged in home sleep testing.

And the other thing that's quite interesting in our data set with sleep labs -- sleep labs that do actively engage with home sleep testing actually end up doing more overall volume, including in-lab overnight volume.

And so both of those things suggest that home sleep testing adoption will continue to move forward, now that sleep labs are realizing that it's in their interest to do it as well.

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

Great.

Thanks, John.

As always, I'd like to thank all of you on this conference call for your interest and your support of ResMed.

Most importantly, I'd like to thank the global ResMed team, providing solutions in over 100 countries, for your focus on changing the lives of millions of patients with every breath.

Thank you very much.

See you in 90 days.

Thank you, ladies and gentlemen.

This concludes today's conference.

Thank you for participating.

You may now disconnect.