Surmodics Inc (SRDX) 2006 Q2 法說會逐字稿

Good afternoon, ladies and gentlemen. Welcome to the SurModics second quarter 2006 earnings conference call.

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

Following today's presentation, instructions will be given for the question-and-answer session.

[OPERATOR INSTRUCTIONS]

As a reminder, this conference is being recorded today, Wednesday, the nineteenth of April, 2006.

I would now like to turn the conference over to Mr. Philip Ankeny, Chief Financial Officer and Vice President of Business Development for SurModics.

Please go ahead, sir.

Thank you, [Michael].

Good afternoon, and welcome to the SurModics fiscal year 2006 second quarter conference call. Thanks for joining us today. I am joined on the call today by Bruce Barclay, President and Chief Executive Officer, and Loren Miller, Vice President and Controller, who is available for the Q-&-A session.

Before we begin, let me remind you that some of the statements made during this call may be considered forward-looking statements. The 10-K for the fiscal year 2005 identifies certain factors that could cause the Company's actual results to differ materially from those projected in any forward-looking statements made during this call. The 10-K and subsequent filings are available through the Company or online.

Now, I'd like to provide a brief overview of today's call. First, I will cover the quarter's operating and financial results. Bruce will then highlight quarterly achievements and discuss some key near and long-term pipeline opportunities, and finally, he and I, along with Loren, will open up the call to your questions.

As you will note from our press release, SurModics posted strong financial and operating results and another record quarter. In particular, we delivered sequential growth in both Cordis and non-Cordis revenue, each posting a new record with non-Cordis revenue growing faster than Cordis revenue.

I will begin with an overview of second quarter financial results, and then, breakdown the numbers by revenue component and business segment. Finally, I will cover expenses and review our balance sheet and cash flow.

Second quarter revenue was 17.7 million, a 13% increase from 15.7 million in the year earlier period. On a GAAP basis, operating income was 9 million, net income was 1.5 million, and diluted earnings per share was $0.08.

GAAP results also a $4.7 million non-cash impairment loss on our investment in Novocell. The impairment charge reflects our judgment that an other-than-temporary impairment has been realized. Nevertheless, we are pleased with Novocell's note-worthy progress and believe strongly in its potential. Bruce will comment in greater detail in recent developments at Novocell.

I would like to remind you that SurModics GAAP results also include the expensing of stock options, as required by SFAS No. 123R. However, to provide easier comparative analysis for investors, we present non-GAAP results, excluding non-cash equity compensation items and the non-cash asset -- the non-cash impairment loss I just described. Please see our financial tables in the footnotes provided in the press release for a detailed explanation and reconciliation of GAAP and non-GAAP figures.

On a non-GAAP basis, SurModics achieved record earnings. Operating income grew 14% to a record 10.5 million from 9.3 million in the prior year period. Net income increased 20% to a record 7.2 million from 6 million in the same period last year. This quarter marks the seventh consecutive quarter of record non-GAAP net income. Diluted earnings per share was a record $0.38, an increase of 19%, compared with $0.32 in the second quarter of fiscal year 2005.

Our business model continues to demonstrate excellent profitability with an operating margin of 60% and a net margin of 41% for the quarter.

Now, I will walk you through the revenue components for the quarter.

Royalties and license fees generated $13.3 million, up 8% from the year ago quarter. These results highlight the value of our broad portfolio of royalty-generating products.

Next, I'd like to spend a minute commenting on CYPHER, the sirolimus drug-eluting Coronary Stent from Cordis Corporation, a Johnson & Johnson company.

Yesterday, JNJ announced another record quarter for CYPHER with world wide sales reaching a record 717 million. J and J reported CYPHER DES market share of 47% in the US and 51% worldwide. In addition, CYPHER continues to be the only DES product in Japan, one of the world's largest markets for drug-eluting stents, and is expected to retain that status until, at least, calendar year 2007. Moreover, JNJ supply and development capabilities should continue to improve as a result of the additional manufacturing capacity brought online during the quarter.

They continue to make progress with the FDA on resolving their warning letter as well. We are pleased that growth of the drug-eluting stent market has accelerated, especially outside of the United States. The size of the worldwide market now exceeds $5.5 billion.

Even with record CYPHER results, SurModics' non-Cordis revenue has exceeded Cordis revenue for the eighth consecutive quarter. We're pleased to report that both Cordis and non-Cordis revenue reached record levels with non-Cordis revenue growing faster sequentially than Cordis revenue.

Let's turn now to other lines of revenue.

The search-and-development revenue was strong at $1.5 million for the quarter. Although the figure represents a slight decline from our first quarter, we remain pleased with the overall level of activity within our R-&-D organization, in particular, with our ophthalmology projects and several key projects with our cardiovascular customers. We believe our R-&-D efforts highlight the relevance of SurModics customer-focussed technology. We remain pleased with the progress we are making.

Continuing on to product sales, I am pleased to report our strongest performance since the fourth quarter of fiscal year 2003. Recall, also, that since that time, we have been subject to the contractual step-down in pricing for reagents we sell to Cordis for the CYPHER stent. Overall, product sales increased 25% on a year-over-year basis to $2.9 million. The growth is broad-based with sequential increases in sales of reagents, stabilizations products, and genomics slides.

Next, I would like to review our business segments.

I'm pleased to report that all three segments achieved growth, both on a year-over-year basis and on a sequential basis. Hydrophilic and other revenue was 5.3 million, an 11% gain from the year earlier period and a 3% increase sequentially. Results in this segment continue to reflect the largest number of licensed customers contributing to royalty revenue.

Second, drug delivery revenue was 8.6 million in the second quarter, increasing 19% year-over-year and 4% sequentially.

Finally, diagnostics revenue climbed to $3.8 million, a 2% year-over-year gain, but up 25% sequentially, as a result of sequential increases in diagnostics royalties and sales of stabilization products and genomics slides.

On the expense front, total operating expense on a non-GAAP basis were $6.3 million excluding product costs, compared with 5.7 million a year ago, and 6.1 million reported in the first quarter of 2006.

Also, I'm pleased to report that we fully vacated our Bloomington facility at the end of March. Originally, we expected to vacate the facility sometime in the third quarter of fiscal year 2006, but we completed our move ahead of schedule. As a reminder, we anticipate that our exit from the Bloomington facility will result in a reduction of approximately $1 million in annual operating expenses.

This will be partially offset by increased depreciation and operating costs of our recently upgraded facilities in Eden Prairie, which we've just moved into. We also anticipate some soft cost savings through increased efficiencies for our employees and customers as people no longer need to shuttle back and forth between facilities.

We continue to demonstrate our commitment to R-&-D investment and to protecting the products that result from our innovations. We dedicated $4.3 million to R-&-D during the second quarter, a 10% increase from the prior year period and representing 24% of revenue. Further, R-&-D expense for the quarter constituted 68% of total operating expenses excluding product costs. Costs from our new ophthalmology division and expenses related to running the I-vation clinical trial are the primary contributors to the growth in operating expenses.

As we have discussed previously, SurModics is absorbing all of the operations and expenses associated with the I-vation clinical trial. In addition, the Company has incurred larger patent-related legal costs that have contributed to R-&-D expense. Allocating funds to patent protection is consistent with our strategy to vigilantly protect our product innovations and technology portfolio, which serve as the foundation of our technology licensing business model.

Lastly, let's examine our balance sheet, which remains in excellent condition.

At the end of the second quarter, SurModics had a cash and investment balance of 87.7 million and no debt. Cash flow from operations was $8.3 million in the second fiscal quarter, compared with 2.7 million in the year ago quarter.

The Company regards its cash position as a valuable asset, and we'll aggressively utilize it to pursue opportunities that support our growth strategy, enhance our market positioning, and continually add shareholder value. During the second quarter, we leveraged our strong balance sheet to expand our portfolio of biodegradable polymers. As Bruce will discuss in more detail shortly, the Company obtained an option to acquire a license with exclusivity in defined fields to the SynBiosys family of biodegradable polymers from InnoCore, and we acquired intellectual property covering biodegradable polymer technology from [introlitics]. We believe these new technologies make a strong addition to our increasingly broad technology portfolio.

With that, I would now like to turn the call over to Bruce.

Thanks, Phil, and thanks to everyone for joining us on the call this afternoon.

SurModics had a great second fiscal quarter. We generated strong financial and operating results, including record levels of revenue and non-GAAP earnings, operating income, net income, and earnings per share. We continue to build on our leading position in the health care space as experts in the development and application of coatings and biomaterials, specifically their application with drugs and devices, and we believe our financial results are evidence of our progress.

Most importantly, increasingly numbers of patients are benefiting from products incorporating SurModics technologies. We take very seriously our contribution to assisting physicians in improving the health of patients around the world. As Phil said, and it bears repeating, we achieved record levels of revenue both from Cordis and from non-Cordis revenue sources, with all three of our segments achieving growth on both sequential and year-over-year basis.

We are particularly gratified by the broad-based contribution to our revenue growth. In fact, compared to the first quarter, non-Cordis revenue in the second quarter grew significantly faster than Cordis revenue. More specifically, our results continue to be driven by our ability to build and monetize our vast portfolio of pipeline projects. Although SurModics has many exciting developments in our pipeline that could add significant shareholder value in the long-term, we have a number of initiatives underway that we believe will have a more immediate impact on our near-term performance.

Let me review a few of these key near-term items for you now.

As we have articulated in the past, SurModics has multiple ways of participating in the 5.5 billion and growing, drug-eluting stent market, either through the polymer that controls the release of the drug from the stent, through [anicthrobis] or [prohelium] coating on the drug-eluting stent, or by providing a hydrophilic coating on the delivery system.

Let me review how SurModics participates in each of these three categories.

During first of the drug-delivery polymer, we have a product on the market generating royalties for us today in CYPHER and paid development programs supported by customers. We have also developed and acquired both durable and biodegradable polymers suitable for controlled release of large and small drugs from stents, including the ability to deliver multiple drugs from stents, as more companies evaluate products in this area.

Secondly, as for our [anecthrobis] and [prohelium] capabilities, but we do not have a product on the market today with a customer in the DES space, we do have multiple paid development projects supported by customers in this high-visibility area.

And lastly, our hydrophilic technologies business unit has penetrated the DES market quite well, licensing our advanced lubricity coatings on the delivery systems of many DES platforms. Within this opportunity set, we have customers whose products are already on the market today such as Medtronic. In addition, we have multiple paid development programs in-house, supported by customers whose products are not yet approved, including Abbott, with their Zomaxx drug-eluting stent, [Conner Med Systems], with their next generation costar stent, as we just announced, Devax, with their AXXESS stent bifurcation lesions. Beyond these, we have other undisclosed customer products in development, some of which we expect to be able to announce in the near future.

While we're not at liberty to disclose royalty rates, customers continue to confirm that the value that SurModics technologies bring to their products is significant. In support of this value, some of the royalty rates we have negotiated on drug-eluting stent delivery systems exceed the royalty rate we receive on the CYPHER stent. And again, I'll remind you, this is an existing $5.5 billion market and growing.

Now, if we turn to the pipeline, we've discussed in the past that we manage our pipeline as a portfolio. We have some products that are extremely large-revenue potential, some that, while important to us, are relatively more modest. We have products that may generate revenue in the near-term and others that are immediate or intermediate, or long-term, in nature. We believe this balance in our portfolio helps dampen the volatility of our revenue streams.

Overall, we now have a total of 79 licensed customers, several with multiple licenses assigned to them, compared with 74 in the prior year period. Currently, SurModics has 82 licensed product classes on the market generating royalty revenue, unchanged from a year ago. The total number of licensed products not yet launched is 79, up from 64 in the second fiscal quarter of 2005. Major non-licensed opportunities as of March 31, stood at 73, up from 52 a year ago. In total, the Company now has 152 potential commercial products in development, compared with 116 in the earlier year period.

Additionally, our customers launched four new products during the quarter, bringing our year-to-date total to five. Looking out over the next 18 months, out of the licensed products not yet launched category that I just mentioned earlier, our customers expect to commercialize, at least, roughly 30 new product classes, a potentially significant increase in the number of royalty-generating products for us going forward.

Now, let's discuss our joint-development program with the Donaldson Company.

As a brief background, this collaboration combines Donaldson's now fiber technology with SurModics surface-modification technology. The Ultra-Web synthetic extracellular matrix surface for cell culture is a research product meant to improve cell culture, cell-based bioassays, and other in vitro laboratory-based cell-related applications. In late-January, only eight months after we announced our collaboration with Donaldson, development of the first joint product was completed, and the product was introduced in the market. Since then, we have already generated sales on that product, albeit modest to this point.

We are pleased with the growing interest from potential customers in the academic arena and from the pharmaceutical industry. The product also received significant attention and a very favorable reception at the plassive cell biology trade show in San Francisco earlier this month.

Importantly, we're making progress on signing up a major distribution partnership for this technology. We have received considerable interest from several potential partners and are in late-stage discussions with one of them. We hope to announce a definitive partnership agreement for distribution of this technology in the very near future.

Now, let's turn to ophthalmology.

Although we're excited about the longer term potential of I-vation and our portfolio of ophthalmology technologies, which I'll discuss in just a minute, our ophthalmology division continues to drive near-term results through its commercial development efforts. The group is very active managing multiple paid feasibility and development programs, evaluating both our drug delivery platforms and polymer matrix technologies. These projects are currently generating R-&-D revenue. Should they move forward to licenses, they could potentially drive significant milestone payments prior to commercialization and potentially significant growth after commercialization.

The reception of ophthalmology technology has received from our customers has been exceptional as partners have recognized the value of our drug delivery technology as a key differentiator for our drug candidates in the large and strategically important market for retinol diseases. We reiterate what we disclosed last quarter -- SurModics currently has multiple paid feasibility and development programs in ophthalmology underway today, evaluating both our drug delivery platforms and our polymer matrix technologies. At least one of these programs is being sponsored by a major pharmaceutical company.

Another critical component that impacts our near-term results is the Company's licensing efforts, which can generate R-&-D revenue as well as royalties and license fees. Along this front, we had a tremendous quarter -- in the second quarter -- signing seven new licenses with our customers, bringing our year-to-date total to 11, up from 10 year-to-date in the fiscal 2005, and well on pace to finish ahead of our goal for 15 for the fiscal year 2006.

Now, I'd like to shift gears and discuss several key developments that have the potential to significantly impact our long-term results, starting with I-vation.

To provide a quick background on this technology, the I-vation intravitreal implant is a drug delivery system that can deliver a variety of different drugs to the back of the eye on a sustained-release basis for extended periods. It can be implanted in a memory-invasive procedure and may be removed once the drug has been fully released, or in the event of complications earlier than that. These are all significant competitive advantages.

In March, SurModics completed enrollment in its phase I clinical study for I-vation, which was a significant milestone for our ophthalmology division. The trial is assessing the safety and tolerability of the I-vation intravitreal implant with triamcinolone acetonide in patients with diabetic macular edema, or DME, under an IND with the FDA. Based on the initial results, the clinical experience from the I-vation intravitreal implant has been excellent. Feedback from treating physicians at our investigational sites have been positive as the implant appears both safe and well tolerated. There were no serious adverse events reported. A safety assessment will be conducted later this year based on the complete six-month follow-up data.

We believe in the technology and fully expect the clinical trial results to continue to build on the validity of the sustained drug delivery systems. However, as we have previously said, until we have that data in hand, we may not be able to reach an agreement with potential partners. Nevertheless, we have had discussions with partners -- with potential partners -- for that product.

In addition, our ophthalmology division continues to advance the development pipeline of future products and platforms. With multiple platforms, human clinical data, and by offering more elements of the final product, such as the device and the polymer, we believe our opportunity in the ophthalmology market, which is expected to be every bit as big as the drug-eluting stent market, is very significant. Although we are investing in this area by virtue of our acquisition with Innk, lnnoRx, and by the increased level of operating expenses to support the development programs and clinical trial, we believe the revenue opportunity more than justifies the investment.

Next, as Phil eluded to earlier in his comments, we have aggressively sought to expand our portfolio of biodegradable polymers. Most recently, by licensing technology from InnoCore and acquiring intellectual property from InnoRx. These acquisitions have fortified our portfolio of biodegradable polymers. We now can offer our customers a total of five biodegradable polymers suitable for site-specific drug delivery, in addition to our durable polymer drug delivery platforms.

The combination of our broad portfolio and exceptional development expertise positions us well to address a broad range of customer needs. As we increase our expertise in the area, we are expanding the potential applications of particular polymer classes with various drugs and other biological compounds. These new polymers from InnoCore and InnoRx enhance our ability to deliver small molecules from biodegradable polymer systems. We continue to have strong interest from our customers in these capabilities.

In addition to our business development efforts to gain access to technology developed outside the Company, we continue to aggressively develop new technologies in-house. Among our priorities are both biodegradable polymers and drug delivery technologies to deliver large molecule drugs. We are very pleased with the progress we are making on these fronts.

We are particularly gratified by the progress we have made on Eureka, which is the trade name for an internally developed biodegradable polymer system that has demonstrated the ability to provide sustained release, control deliver of proteins, and other large molecule compounds. Further, because the system is composed of naturally occurring biomolecules, products of biodegradation are simple elements that we believe will be well tolerated by the body. Our customers have shown significant interest in this new polymer system.

Lastly, I'd like to provide a quick update on Novocell, another longer-term pipeline opportunity that has made meaningful progress during the quarter. Although we recorded a non-cash impairment loss on our investment in Novocell, we remain optimistic about the Company's prospects for product commercialization. Novocell is continuing its enrollment of patients with type-one diabetes into its phase one, two, clinical trial to evaluate the safety and efficacy of encapsulated human ilagraphs, implanted subcutaneously without long-term immosuppression. Information on the trial is listed at www.clinicaltrials.gov, if you have interest in learning more.

In addition, Dr. Allen J. Lewis was recently named Novocell's new President and Chief Executive Officer. Dr. Lewis comes to Novocell with an exceptional background, and we're excited to be working with him and his team. Under Dr. Lewis' leadership, Novocell is currently a new round of funding, having just completed a series D round with Johnson & Johnson Development Corporation, as its lead investor. And lastly, Novocell has recently re-launched its website. Going forward, investors will be able to better monitor progress by logging on to Novocell's website at www.Novocell.com.

We're pleased with the progress Novocell continues to make with our encapsulation technology. We believe the vast potential of the diabetes market continues to make this attractive opportunity for SurModics.

In closing, SurModics remains dedicated to enhancing the well being of patients by providing our customers with the world's foremost, innovative surface modification and drug delivery technologies and products. We know that SurModics is measured by our results, and we intend to continue to deliver results that matter both in the near-term and in the long-term.

[Michael], that concludes our prepared remarks. Now, we'd like to open up the call to questions.

Alright. Thank you, sir.

Ladies and gentlemen, at this time, we will begin the question-and-answer session.

[OPERATOR INSTRUCTIONS]

Richard Rinkoff, Craig-Hallum, please go ahead with your question.

Thank you. I've got a couple of questions.

One -- Bruce, I think you said that the lubricious coating has the opportunity to deliver more royalties than the current drug-eluting stent royalties. Did I get that right, and are we talking dollars, or are we talking percentage of royalty rate?

Yes, I mentioned both relationships that have become public, like Medthonic, Abbott, and Conner, then I also mentioned relationships that are licensed, but not yet public. I am referring to that collective world, and I was also referring to royalty rates. I would also clarify that the royalty rate is not -- that is not the case in all cases, but in some cases, it is. And it's not dollars, it's royalty rates. Dollars, obviously, has yet to be seen. We hope that's the case.

You mentioned Zomaxx in there. Is that new, and what exactly is that?

Yes, this has been in place for a while. We recently were able to get permission from Abbott to disclose this, which we appreciate very much. They have a very deliverable system, and their delivery system has our hydrophilic coating on it. So, today was the first day we announced that relationship.

Okay.

This is their current Zomaxx product that's in development right now -- in clinical trials right now.

What's the anticipated launch date, both overseas and here?

I don't have that in front of me, Rick. It's fairly publicly known.

Alright. So, I'll find out.

Secondly, on the Novocell, you're pleased with the progress, but there's an impairment. Is that because you were diluted out?

Rick, let me address that one a little bit.

Yes, there are a number of factors that have gone into the financing of that company since our initial investment in December of 2001. As you probably recall, they've done a number of financings over the years. They've done a merger to gain access to the stem cell technology that they're also developing now. And so through those financings -- and SurModics did not participate in all of those financings -- we we have been diluted down. That's correct.

I'd also comment that the market for venture capital investments with -- over the last few years, has been much tougher for companies that are not at commercial stage yet, that are still in development, and so, Novocell has definitely been subject to those market terms.

This really is just an accounting issue for us. We definitely would urge people to look at this from two perspectives -- one is the accounting treatment we're taking this quarter, but the prospects for the opportunity remain unchanged, and, in fact, we're very encouraged by the recent hiring of their new CEO who has very strong background, and the progress they continue to make with other clinical trial and other development efforts.

Have you signed a licensing agreement with them, if and when they ever have a product on the market?

Yes, we do have a license for the use of our encapsulation technology on their product, and it's much better than a CYPHER royalty rate.

That has nothing to do with the write-down then?

The last question for the time being is you've got a lot of money. Have you given any consideration to a buyback, or do you plan to make acquisitions or continue along the lines of what you've been doing, which is a little bit here, a little bit there?

Let me take a crack at that, Rick. It's a good question.

We've consistently said that one of our growth revenue strategies is to leverage the balance sheet when and where appropriate, and we have done that in the past couple of years in the form of numerous business development transactions. We look at those in several buckets -- licensing, or acquiring intellectual property, strategic investments, and mergers and acquisitions, and we've done some of all of those.

We believe that those uses of our cash have and will continue to yield increased levels of shareholder value. And as the cash on our balance sheet has grown, we have become increasingly mindful of the importance of capital allocation, and we're keenly aware that the best creators of shareholder value are really those management teams that can both run the businesses well and manage capital well. So to that point, we really, historically, have believed that the potential strategic uses of our cash have outweighed other uses such as a share repurchase, or something like that, but, going forward, nothing has been ruled out.

Thank you.

Thanks, Rick.

Thank you.

And our next question is coming from Dan Owczarski at Belmont Harbor Capital.

Please go ahead.

Yes, thanks. Hi, Bruce. Hi, Phil. Very nice quarter.

Thanks, Dan.

On the STRIDE trial, can you give us a little more detail on the type of data that you will be reporting?

It sounded like, Bruce, you'd said a six-month follow-up. Would you be showing us any data, like a 30-day safety or anything like that, or what should we look for and when?

The specific data will be at six months for all the patients. It is a safety trial, so what we're looking for are, really, how well tolerated was the device in the patients over that six-month window.

We will continue to follow the patients out to three years at the request of the FDA, but what they've said is that with six-month data, that would then give us -- and assuming it's good and we continue to think that it will be, but it's not all compiled yet -- we would then have the right to go back and request permission to begin a phase two -- phase two or phase three trial at that point. So, say the data come out will be more safety-related, and details of that will be made available -- our best guess now is sometime in the fall of this year.

Okay.

And so, it's how many patients is it? The 30 patients--?

Yes. 31, I think, to be precise, but--.

Okay.

And then you ran through a lot of the numbers. I was hoping you could go through them again, Bruce, about licensed products generating, but I guess the one that caught my attention, 30 new products that are scheduled to be launched in the next year. Is that right? Is that the number?

Yes.

And then out of 73 major not launched, is that--?

Yes. I can -- let me just hit the highlight again.

It was 79 licensed products, so agreements already in place that aren't launched yet, and then, there are 73 non-licensed products that we would categorize as major opportunities. So, there's hurdle rate that we apply to those, and these met that hurdle rate.

Of that 79, what I was saying was that of the licensed projects, over the next 18 months going forward, what our customers have told us, and data we have as well from working with them, is that we would expect, at least, approximately 30 of those to be on the market within that 18-month window from today.

Okay.

So, it's looking at about 82 product classes today. Hopefully, by the end of next 18 months, we'll have another 30 or so, on the market.

Then, you had talked a lot about, and you seemed to be really focused on, the biodegradable polymer opportunity there, but could you give us a little bit more specifics about where biodegradable polymer would be useful in drug delivery? I guess I understand the coronary stent application, and I guess maybe that's two questions -- where, outside of coronary stents, would the biodegradable polymers be used; and two, within coronary stents, how far along are you in studying that application?

Outside of coronary stents, the largest opportunities that we see right now are in ophthalmology, either the front of the eye or the back of the eye.

Second, orthopedics, we believe, is another significant opportunity, the ability to incorporate a drug in a sit-specific application with a polymer that degrades over time, so you don't have to go back in and take anything out of the delivery system, take it out.

Then, we also believe that in the vascular space, stents outside of the coronary is another big opportunity, either in the neuro vascular arena or in the peripheral vascular, the lower extremity, peripheral vascular disease, where vessels are larger and longer, and often times, you may not want to place -- for example, in the leg, 30 centimeters of stents, there may be some advantages to providing a biodegradable platform.

Our progress on coronary stents is good. We have been able to demonstrate the ability to deliver both large and small molecules from a platform with the biodegradable polymers that we have. We have both acquired, as you heard, and also developed internally, biodegradable platforms. Really, that's because it's like I guess most technologies, there's no one technology that meets every need. Some are better at delivering large molecules; some are better at delivering small molecules. Some formulate certain classes of drugs better than other classes of drugs, so having breadth is great for our customers. When they come in with a drug, and we can help them select the right polymer that matches up with their drug for the intended indication, and that, I think, is the reason why we're trying to expand that opportunity.

We still think durable polymers have a very strong application in the marketplace. Biodegradable polymers have the added complexity of degrading, which means that the system needs to be able to excel those in a way that isn't toxic to the body, and that's a complication potentially with some polymer systems. We're spending a lot of time looking at that as well.

We're confident we're on the right track, and this is clearly something that our customers are spending a lot of time asking us about. And as I said, I think we're making great progress.

And then for timetable, how should we be thinking about that? Is this still years away from commercialization, being able to use this?

It depends on the application, but I would say this is one of the longer-term complications that we talked about in the text.

We can generate revenue sooner with commercial development. We can generate revenue sooner with milestones, hopefully significant because w consider these very enabling technology, which, historically, have generated better financial terms for us, but these are long-term projects -- clinical trials required by FDA. To get a specific answer, I guess we would have to talk about a specific project.

Okay.

Thank you.

Dan, let me add one more element to your question on the biodegradable polymers. Bruce really talked about the breadth of technical requirements that we can address with multiple biodegradable polymer systems. The other advantage for us in our business model, by having these multiple systems, is really the contractual flexibility it gives us.

If you look back in time, we have had moments where we've not had a full breadth of polymer systems to be able to license multiple people to the extent someone licenses something on a modestly exclusive basis. As we try to license exclusively -- and, as you know, we don't, by default, we try to license non-exclusively -- by having multiple polymer systems to the extent we do get grant any exclusivity with any one polymer system, we can still work with other people with these other systems that we have in-house. So, it's really both technically and contractually we enjoy the advantages that this multiple platform approach gives us.

Okay.

Thanks, Phil.

Alright. Thank you.

Mike Bossman, Peninsula Capital, please go ahead with your question.

Hi, guys. Let me just start out by saying with great quarter, both Bruce and Phil.

Question I have -- there's been some recent news about targeting lower reimbursement rates, specifically toward the drug-eluting stent market, and I know you guys have commented you're growing your revenue away from CYPHER, but it seems to me a lot of it's still built on the stent platform, i.e., multiple vendors. How would this proposed lowering re-imbursement rate affect your business, and how much of a spill-over would that have in the lower ASPs for the stent treatment, do you think?

Let me try that one, Mike.

There may not be much we can add to the debate already on this topic. It's already fairly public, and a lot of different sources have weighed in. It's definitely not appropriate for me to speculate.

I would say that the changes, obviously, don't effect us directly since we don't sell these products to hospitals. I would note that the changes are proposals only at this point, and that there appears to be a fair amount of opposition lining up against them or, at least, challenging the methodology in which the proposal was created.

It also looks like that if changes were to come in, they wouldn't be made for some period of time. So, I think for us, it's something that we're obviously very interested in, and we're watching, but e're a little bit distant to it.

I would also say that we increasingly are trying to and get, on many occasions, payments, which are not royalty-based, but are a set dollar amount. So, if you sell X or Y, we get $2, and not 2% or something like that, as an example, which protects us a little bit from falling ASPs.

So, a number of different things, obviously, that we've done, and that we'll continue to do, obviously, we're watching this very closely.

Sure. That helped.

Can you maybe just tell us how much of your -- how many of your contracts or percentage of royalty contracts are specifically on stent platforms?

We've not publicized that number other than just to say that we public with CYPHER and then we're public with the delivery systems for endeavor, Zomaxx and Conner, and recently this week, we announced Devax. We have said that there are others in the pipeline, and others licensed in the pipeline, but we've not gotten permission to disclose those yet.

Okay.

All the other questions have been answered.

Thanks a lot, guys. Great quarter.

Thank you, Mike.

Ladies and gentlemen, if there are any additional questions at this time, please press the star, followed by the one, now.

Do remember if you are listening in on the speaker equipment, you do need to lift the handset before making that selection.

Our next question is coming from [David Kim] of Citadel.

Please go ahead.

Hi. Good afternoon, guys. Nice quarter.

Thank you.

A couple quick questions -- first, there's been growing discussion on the potential relationship between stent thrombosis and durable polymers. Can you provide any thoughts on the likely-hood of a positive relationship there?

And second question, Cordis has made comments on their interest in developing a drug-eluting stent with a biorotable polymer. They've also mentioned that they have a few of their own in-house biorotable polymers. Are you, or will you, be working with Cordis in this area?

I'll take the second question first. The second question we're not going to be able to answer. I will say that the biodegradable polymers that we've developed and licensed, and have the potential to become stand-alone devices. They don't have to necessarily be coatings. They can be coatings, but they don't have to be coatings, so it's not a point that's been lost on us.

And your first question again?

Just the potential relationship between durable polymers and thrombosis -- if you can provide any thoughts there?

I really can't add anything to what's already been public. There's a lot of speculation around the polymer, maybe around the drug being too effective at preventing and not allowing the stent to re-incorporate itself into the vessel wall. Frankly, I think that's still an unknown in our opinion, but we also have the ability to work with customers if they choose, to go in a different direction going forward either with a biodegradable polymer, which may be able to avoid that, or with our regenerative technologies.

We have a pro healing technology licensed from University of Arizona, which is intended to accelerate good cell growth to incorporate the stent more quickly into the vessel without hypergliphorative effect, causing re-synesis, or a anti-thrombotic coating, like a Heparin coating, or the anti-thrombotic drug. Again, I think it goes to the breadth of what we're trying to do here that, regardless of the need, a company can come in with a problem, we really positioned ourselves as having a broad toolkit capability with technologies and in a broad-application expertise.

Any other questions?

Pardon me, Mr. Kim, has that satisfied your question?

That's all.

Thank you.

Thank you.

Just one second, please.

And [Chip Fraser] of [Franco].

Please go ahead.

Chip Fraser if you have a question please go ahead your line is open.

Hi, guys. Great quarter.

Real quick -- would you breakdown a percentage of maybe slides or reagents that make up the product sales, and what percentage of that goes to JNJ?

We've not broken those out publicly. We have said that the reagents of those three, is a majority, but beyond that -- we've not really gone beyond that.

You guys have seen a pretty good surge in the last two quarter under the product sales. Is there anything that's driving that?

It's really been strength across the business. There's been increasing units sold of reagents, basically, to a broad group of customers, as well as strength in the slides sales to GE, and the stabilization business continues to do very well.

There's no question, but that's mostly volume-driven.

Okay.

Thanks.

Thank you.

We want to thank you again for participating in this quarter's conference call.

We're pleased to have delivered strong financial and operating results with record revenue and non-GAAP earnings.

We look forward to speaking with you again in July, when we announce our third quarter results.

Thank you.

Thank you, sir.

Ladies and gentlemen, this does conclude the SurModics second quarter 2006 earnings conference call.