史賽克 (SYK) 2004 Q1 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to Stryker Corporation's first-quarter operating results conference call. During the presentation, all participants will be in a listen-only mode. Afterwards, we will conduct a question-and-answer session. (OPERATOR INSTRUCTIONS). As a reminder, this conference is being recorded, Thursday, April 15, 2004.

Certain statements made in today's presentation may constitute forward-looking statements. They are based upon management's current expectations and are subject to various risks and uncertainties that could cause the Company's actual results to differ materially from those expressed or implied in such statements. In addition to factors that may be discussed in this presentation, such factors include, but are not limited to, regulatory action's including cost containment measures that could adversely affect the price of or demand for the Company's products; changes in reimbursement levels from third-party payers; a significant increase in product liability claims; changes in economic conditions that adversely affect the level of demand for the Company's products; changes in foreign exchange markets; change in financial markets; and changes in the competitive environment. Additional information concerning these factors is contained in the Company's filings with the Securities and Exchange Commission, including the Company's annual report on Form 10-K and quarterly report on Form 10-Q.

I would now like to turn the conference over to Mr. John Brown, Chairman of Stryker. Please go ahead, sir.

Thank you, Marcus, and we appreciate everyone being with us today. I suspect that most of you have already pulled off a copy of the press release, which has many of the basic numbers in it. We want to welcome you to Stryker's first-quarter earnings report for 2004. And with me today are Steve MacMillan, President and Chief Operating Officer, and Dean Bergy, Vice President and Chief Financial Officer and Secretary.

We're pleased to report that Stryker started the year on a very strong note. For the first quarter, net sales were 1,035,000,000, an increase of 22 percent over the prior year. Excluding the impact of foreign currency, sales were 17 percent higher than last year. Net earnings increased 31 percent to 136 million. And diluted net earnings per share increased 29 percent to $0.66 per share.

We generated 58 million in cash from operations and reduced debt plus the accounts receivable securitization by 5 million in the quarter.

Domestic sales were 658 million for the first quarter, representing an increase of 20 percent. U.S. divisions had pretty great first quarters, and we think are well-positioned for excellent years to come.

Orthopedics was up 26 percent for the quarter with extremely strong growth in reconstructive implants and bone cement, but did have a softer quarter in trauma sales. Spine sales increased 16 percent in the quarter, led by strong sales of (indiscernible) lumbar and cervical products.

Leibinger micro implant sales were up 19 percent in the quarter, led by sales of craniomaxillofacial implant systems. Instruments (technical difficulty) increased 17 percent in the quarter with strong growth in powered instruments and pain management and excellent growth in Neptune operating room waste management systems, surgical navigation systems and interventional pain.

Endoscopy sales increased 19 percent in the quarter with strong growth in arthroscopy and video systems. Medical was up 15 percent in the quarter with excellent growth in hospital beds and stretchers. And finally, Physiotherapy was up 16 percent in the quarter, primarily on the strength of faster same-store sales growth.

International sales were 377 million for the first quarter, representing an increase of 25 percent over the prior year. Foreign currency comparisons added 47 million to sales in the first quarter. Excluding the impact of foreign currency, international sales increased 10 percent for the first quarter.

On a local currency basis, most of the international divisions had a good quarter. Europe grew 7 percent for the quarter with strong performance in the U.K., Benelux (ph), and Spain. European growth was reduced by sales declines in our lower profit export business where we tightened our credit policies. In other words, we asked for non revocable letters of credit. And the underlying growth in Europe was about 11 percent. So Europe actually had a good quarter.

Japan grew 6 percent in the quarter with its strongest performance in orthopedic implants. Pacific was up 7 percent in the quarter with its strongest performances in Korea and Hong Kong and in southern Asia. Canada and Latin America were up 41 percent for the quarter with the strongest performance in Latin America.

Worldwide, orthopedic implants sales were 633 million for the first quarter, representing an increase of 23 percent. That was based on strong shipments of reconstructive products, traumas, spine, micro implant systems, and bone cement. Excluding the impact of foreign currency, sales of orthopedic implants increased 16 percent in the quarter. Worldwide MedSurg sales were 342 million for the first quarter, representing an increase of 21 percent. That was based on higher shipments of power surgical instruments, endoscopic products, patient handling, and emergency medical equipment, along with surgical navigation systems. Here, excluding the impact of foreign currency, sales of MedSurg Equipment increased 18 percent in the quarter.

Concerning Physiotherapy, the Sabino (ph), we announced in late December that physiotherapy associates and Stryker had received a subpoena from the U.S. attorney's office in Boston in connection with the Department of Justice investigation of Physiotherapy Associates' billing and coding practices. We're making progress with our response and are continuing to cooperate with the Department of Justice. However, we really don't have anything else to add to that report or this matter at this time.

One of the big topics in orthopedic surgery today is minimal invasive surgery and some comments on that. In the area minimal evasive total joint procedures, we're making good progress in the areas of instrument deployment, technique refinement and training. Stryker's objective here is to facilitate a menu of MIS techniques through the instrumentation that we are planning to provide. We think navigation will play an important role in successful, less invasive procedures, and believe our navigation business will help us further an integrated approach.

MIS training will be available in various forms, including online training providing computer simulation, as well as through the American Academy of Orthopedic Surgeons' training center in Chicago and in established centers of excellence throughout the world.

In minimal invasive knees, we have validated the safety and reproducibility, the mid-fastest (ph) approach using our Scorpio total knee system. Results of this technique were presented to the scientific community and select media at the recent American Academy of Orthopedic Surgeons in San Francisco. This study, which was presented by Dr. Peter Bonutti, reported on a two-to-four year follow-up on 216 knees with 97 percent excellent results.

This study has been peer-reviewed and accepted for publication in the Journal of Bone and Joint Surgery. We anticipate it will be published this year. Dr. Bonutti was recently granted a U.S. patent for the MIS knee instrumentation developed as part of this study. Stryker maintains an exclusive license to this instrumentation, and has placed approximately 175 sets in hospitals to date, with plans to ship another 200 sets.

In addition, our new Triathlon knee system will have a designated MIS instrument platform. And as we reported, I think, at the AOS (ph), we expect to launch Triathlon in the second quarter.

In minimal invasive hips, our Accolade hip system and Trident system are currently being used to perform single mini-incision and two-incision total hip (indiscernible) plastic procedures. The Accolade hip instrumentation is an excellent complement to these procedures.

In addition, we have another 70 custom instruments sets in the field to facilitate minimal invasive hip procedures, and shipped approximately 200 sets of the specialized retractors and light sources in the first quarter of 2004. In the second quarter, we plan to launch a state-of-the-art hip instrumentation to support clinicians' needs in this area.

In the biotech area, we've got some good news to report. We have resolved all the issues related to the OP-1 product release testing. And OP-1 shipments in the quarter reached a new high watermark. We are in the process of increasing manufacturing capacity, but still expect that capacity constraints will keep OP-1 sales below market demand, and certainly in the second quarter. We're hoping maybe in the third quarter we can have this corrected.

We announced two pieces of good news regarding Biotech business this last week. First, we announced the appointment of Mark Phillip, Ph.D. as President of Stryker Biotech. Mark was most recently President and Chief Executive Officer of Zycos Inc. Mark has extensive biotech experience, and we believe he is the right leader for our ortho biologics business at this critical juncture in its history.

We also announced that the U.S. Food and Drug Administration granted approval of a humanitarian device exemption for the use of OP-1 Putty in revision spine surgery, where it is indicated for use as an alternative to autograft in compromised patients requiring revision posterolateral lumber spinal fusion. That is a mouthful. The OP-1 Putty product has improved handling characteristics and is also the formulation that was used in our North American posterolateral spine fusion trial.

Humanitarian Device Exemption devices are intended to treat disease or conditions that affects fewer than 4000 individuals per year in the U.S. As you know, we also have an HDE of clearance for OP-1 to be sold for certain trauma indications. We expect to begin shipping our OP-1 Putty under this new HDE beginning in the third quarter of this year.

And now, I would like to turn the microphone over to Steve McMillan for his observations on the quarter. Steve?

Thank you, John, and good afternoon everyone. Health (ph) by currency gains, both our orthopedic implants and MedSurg businesses exceeded 20 percent sales growth. MedSurg for the second straight quarter and orthopedic implants for the seventh straight quarter. On a global basis, our implant business all saw accelerating operational growth rates in the quarter, with the exception of trauma, where the underlying growth rate of 8 percent and 17 percent, on a U.S. dollar basis, was equal to last quarter.

Operational growth rates were as follows -- hips, 17 percent; knees, 18; Spine, 17 percent; and micro implants, 14 percent. On a reported basis, the numbers are as follows -- hips, 25 percent; knees, 24 percent; spine, 22 percent; micro implants, 21 percent; and trauma, 17 percent.

Let's look for a moment at our important U.S. recon business, which posted a very strong quarter. Driven by the continued strength of our Trident ceramic-on-ceramic hip with the unique lift liner, and behind the strength of the Jack Nicklaus patient education campaign, our U.S. hip business grew 30 percent in the quarter. This follows our last three quarters of 21 percent, 23 percent, and 27 percent growth, respectively. As you know, we are the market leader in the U.S. hip marketplace and are quite encouraged by our strong growth here, which we think is clearly outpacing the market.

While there has been a lot of attention paid to our hip business over the last few quarters, we also achieved 26 percent growth in our U.S. knee business during the quarter. This growth is driven by a number of initiatives begun last year, which really hit their stride. As John mentioned, our MIS knee program, spearheaded by Dr. Peter Bonutti, saw great gains as we rolled this program out on a more broad-scaled basis in the quarter.

Two important new products launched late in 2003 -- Scorpio Flex and Duracon CS lift inserts -- are also being well-received in the market. And finally, we do believe we benefited from positive momentum from our hip business as well.

One blemish for our U.S. implant business was trauma, where we achieved only 4 percent growth. This business benefited significantly from heavy military shipments in last year's first quarter. Excluding these military shipments, our underlying growth rate was a more respectable 14 percent in this year's first quarter. Despite the explanation, we want to do better here.

Encouragingly, our trauma business continues to do very well in Japan, where operational growth was 19 percent, and Pacific, where it exceeded 30 percent. Our spine division also began to show improved results in the quarter, posting 16 percent U.S. growth and double-digit operational growth rates in Europe, Japan, and Pacific. In fact, Europe and Pacific each exceeded 20 percent operational growth, driven largely by the launch of our Oasis cervical system in the quarter. As a reminder, this is our first quarter of results since moving to a totally dedicated unit within the U.S., and we expect this enhanced focus to yield further strengthening in the quarters ahead.

For the second straight quarter, our Leibinger micro implant business also grew in excess of 15 percent, marking a clear turnaround after several soft years. New products, a much stronger sales organization, and the decision to decouple this business from navigation seemed to be paying off here. We are also seeing the benefits of this decision for our navigation business, which more than doubled -- admittedly off the low base -- from last year's first quarter.

Our MedSurg business has also had strong U.S. results in the quarter, driven largely by many of the new product launches highlighted at the AOS meeting in San Francisco last month. Our endoscopy business grew 19 percent in the quarter, powered especially by the launch of our 1088 high-definition camera. Instruments grew a healthy 17 percent behind widespread strength in power tools, OR equipment, and interventional pain products. And medical was up 15 percent. These businesses are also now developing very nicely outside the U.S., leading to the total MedSurg gain of over 20 percent.

As John touched upon, we're also more optimistic about our international performances, as our core direct operations in Europe achieved double-digit sales growth.

Now, we will turn it over to Dean Bergy, our CFO, for more details.

Thanks, Steve. I'll start on touching on the foreign currency impact in the quarter. As you saw, it again was very favorable in this quarter coming off a last year of very favorable foreign currency. Foreign currency increased our international sales by $47 million, or 16 percent, in the quarter, built on the strength of the euro and the yen against the dollar. If currency rates hold at current levels, we expect we will see a positive impact on sales of about $30 million in the second quarter of this year.

Turning to price volume analysis -- in the quarter, price impacted our results, increased our sales by about 3 percent. Foreign currency by about 5 percent. And volume and mix made up the remaining 14 percent of the 22 percent sales growth in the quarter.

U.S. implant prices were up about 6 percent in the quarter. Prices in Europe were up slightly. In Japan, prices were down slightly, and we anticipate a further reduction of second quarter when the MHLW price reductions take effect. For the quarter, volume and mix was up about 17 percent in the U.S., and about 9 percent overseas.

And now turning to our segment results and the growth rates by product line, orthopedic implants represents about 61 percent of our sales. And the one thing I should point out here is that the Orthopedic Implants segment has been restated from the prior year to include sales of Leibinger micro implant systems, which were previously included in the MedSurg equipment sales. That is really just based on the fact that we believe those products are more appropriately classified as implants. Orthopedic Implants sales, as we touched on, increased 23 percent in the quarter on an as-reported basis, and 16 percent on a constant currency basis.

And now, I will touch on the individual product lines. Hips, as Steve said, were up 30 percent domestically; 19 percent internationally; 25 percent as reported. Knees were up 26 percent domestically; 21 percent internationally; and 24 percent in total. Trauma up 4 percent domestically; 25 percent internationally; 17 percent in total. Spine, up 15 percent domestically; 36 percent internationally; and 22 percent in total. Leibinger, 19 percent domestically; 24 percent internationally; and 21 percent in total. So far total implants business of 24 percent domestically; 23 percent internationally; and 23 percent in total.

On a constant currency basis -- obviously, the domestic numbers are the same, so I will read the international and total numbers across by product. Hips were up 4 percent internationally on a constant currency basis, 17 percent in total. Knees 5 percent internationally, 18 percent in total. Trauma up 10 percent internationally, 8 percent in total. Spine, 21 internationally, 17 in total. Leibinger, 9 international, 14 total. And the total orthopedic implant business of 7 percent internationally and 16 percent in total.

Turning to the individual products -- hips, we had another excellent quarter there, led by our Trident ceramic-on-ceramic hip system in United States. On a unit basis, ceramic insert sales represented approximately 30 percent of our total insert sales in the quarter. We continue to see a strong shift to cementless stems, which are used in higher-end ceramic-on-ceramic procedures. The growth in this area was driven by our Accolade TMZF, Citation TMZF, Secure Fit HA, and Meridian TMZF products.

Sales of acetabular cuffs were very strong, driven by the Trident Acetabular System for both polyethylene and ceramics. In Europe, Trident had a great quarter and Exeter continued its solid performance. Hip sales were soft in Japan, as that market continued to see a mix shift from hip to trauma products as a result of the manner in which certain hip fractures are now being treated.

Knees -- we had a great quarter in knees with Scorpio and Duracon providing excellent growth in the U.S. The Duracon TS and Scorpio TS revision systems were also solid. The Scorpio Flexknee (ph) for patients requiring an extended range of motion continues to be a catalyst for U.S. knee growth. In Europe, our Scorpio knee provided strong first-quarter growth.

Our posterior stabilized deflection knee products, Scorpio Superflex P.S., had a solid quarter in Japan. And our Scorpio Flexknee also had a great quarter in the Pacific.

The GMRS product launched last year had an excellent first quarter. And Eius, our minimally invasive Uni Knee continued to do well.

In trauma, our trauma sales growth matched the fourth quarter at 8 percent on a constant currency basis. The T2 intramedullary nail system had another great quarter and it continues to lead our trauma sales growth. Our Gamma hip fracture product also did well in the U.S.

Sales of our external fixation products were down in the U.S. where we were going against the prior-year period that included heavy military sales. Sales of hip fracture and external fixation products were solid outside the U.S., particularly in the Japan and Pacific regions.

Spine, as we said, was up 22 percent in the quarter. Spine sales growth was led by sales of our Z-2 (ph) and SR-90 (ph) thoracic-lumbar products. The reflex anterior cervical plate also had a great quarter overseas and a very good quarter in the U.S. Sales of interbody cages were down in the United States.

Leibinger, the newly-added line to the orthopedic implants line was up 21 percent in the quarter. That business -- the micro implant business -- put up another strong quarter led by sales of craniomaxillofacial products. This business is building on an improving sales force with some nice new products. As you know, we've been concentrating our efforts here on increasing focus and improving the quality of the sales force.

Now, I'll recap for you the restated segment sales for the quarters going out so you'll have those numbers for your model. So I'm going to tell you here what the orthopedic implant, MedSurg Equipment, and the PT numbers will be in the quarters -- the restated numbers for 2003 and the quarters going forward.

2003 quarter 2 -- orthopedic implant sales were 546.9 million on a restated basis. MedSurg Equipment, 288.2 million. Physical therapy, 56.6 million -- of course, that's not restated; it's coming to the total sales for last year's quarter 2 of 891.7 million.

For quarter 3 -- orthopedic implants, 530.9 million; MedSurg Equipment, 298 million even; physical therapy, 56.5 million, 885.4 for the year, or for the third quarter of '03. Orthopaedic Implants for the fourth quarter of 601.5 million. MedSurg Equipment, 341.9 million; PT, 57.9 million. And of course, this last year's fourth quarter was 1 billion, 1 million point 3. And for the year, orthopedic implants, 2 billion 192.5 million; MedSurg 1 billion, 209.8 million; physical therapy, 223.

Now, turning to our MedSurg group, obviously, the MedSurg group with the movement of Leibinger micro implants out, is now comprised of three operating divisions. Instruments represents about 44 percent of those sales. Endoscopy about 33 percent, and medical about 23 percent. I will remind you that the navigation business that was previously combined with Leibinger is now being sold domestically by our instrument sales force.

MedSurg group sales, as we said, were up 21 percent in the quarter and 18 percent on a constant currency basis. The instruments product line was up 19 percent in the first quarter and 14 percent on a constant currency basis.

Turning to the product line groupings that we give you there -- powered instruments were up 14 percent domestically; 23 percent internationally; and 16 percent in total. Other OR equipment was up 20 percent domestically; 25 percent internationally; and 21 percent in total. And total business of 17 percent domestically; 24 percent internationally; and as we said, 19 percent in total.

Instruments division had a great quarter based on excellent growth in powered instruments systems and strong shipments of other OR equipment. Domestic growth was strong and we continued to gain market share in international markets. Our System 5 heavy-duty power system had another excellent quarter. And micropower tools registered strong double-digit growth.

The Neptune operating waste management systems, pain management, interventional pain products, and Steri-Shield had extremely strong quarters. In addition, our navigation products, which were added to the instruments bag at the beginning of this year, had an excellent first quarter domestically.

Turning to endoscopy. Endoscopy was up 22 percent in the first quarter as reported; 19 percent on a constant currency basis. The product lines there are arthroscopy, was up 26 percent domestically, 49 percent internationally, and 32 percent in total. General surgery products were up 12 percent domestically, 34 percent internationally, and 16 percent in total. Video products were up 17 percent in the U.S., 26 percent internationally, and 18 percent in total. And the total endoscopy business was up 19 percent in the U.S., 35 percent internationally, and 22 percent in total.

Endoscopy had another strong quarter based on great growth in our arthroscopy, strong growth in video and general surgery. U.S. growth was excellent. We had another great quarter overseas where we have been building our sales forces.

Sports medicine products are leading our growth in arthroscopy. Camera sales were also strong and there continues to be a lot of activity in the endo suite and communications areas.

Turning to our medical business, that business was up 26 percent in the quarter, as reported, and 22 percent on a constant currency basis. Domestically, the business was up 15 percent, 68 percent internationally for the 26 percent total reported sales growth. Medical had an excellent quarter with strong growth in the U.S. and extremely strong sales in Canada, making up the bulk of that international business.

Our stretcher business had a great quarter -- beds were strong domestically, and our EMS business was stronger overseas.

Physiotherapy had a very solid quarter with 16 percent growth. That's the best quarter they've had in quite a long time. A very nice story here is that same-store sales were up 9 percent in the quarter, with startups and acquisitions accounting for the remainder of the growth. We ended the quarter with 395 centers, up from 374 at the end of the year.

Turning to the P&L, overall margins -- gross margins in the quarter -- finished at 64.4 percent, versus 64.5 percent in the prior year. They were flat sequentially and as compared to last year. Excess and obsolete inventory costs are a bit higher this quarter in the face of some new product introductions, and we're also seeing the impact of currency drive up the cost of some of our European-produced products in the U.S. markets.

R&D spending finished the quarter at 4.8 percent of sales. R&D spending was up 15 percent year-to-date. It's down a little bit as a percentage of sales, but flat sequentially. We continue to put increased focus on our development efforts with an emphasis on the quality of the ideas.

Selling, general and administrative costs were up 22 percent to 39.7 percent of sales. That ratio is down a little bit from last year when it was 39.9 percent of sales in the first quarter. We continue to grow our sales forces. As you know, that puts upward pressure on this ratio, particularly early in the year when additions are heaviest. We also have higher sales meeting costs and higher insurance costs this year, as well as higher amortization expenses associated with loaner instruments.

Intangibles amortization is now included as an operating expense in the derivation of operating income. That's a little bit of a reclassification from the way we have done it previously. That expense was up $3.8 million in the quarter. The increase is primarily attributable to the write-off of goodwill associated with the closure of certain physiotherapy clinics and higher costs from the acceleration of the Howmedica trade name amortization that we talked to you about last quarter. All in all, operating income finished strong, up 24 percent in the quarter. And operating margins, as a percentage of sales, were up slightly from last year at 18.7 percent.

Interest expense is getting to be almost nonexistent. We also add, for the purposes of the way we talked to you about this, accounts receivable securitization discount to that number. That securitization discount was 700,000 in the quarter, bringing the total interest expense plus securitization discount to 2.1 million versus 7.5 in the prior year, down 72 percent.

Other income is primarily interest income on a year-to-date basis. I will give you the breakdowns of that. Interest income in the quarter, $3 million; and F-ex foreign currency lost of .6 million; minority interest of .1 million, leading to the total $2.3 million of other income that we experienced in the quarter.

The income tax rate for the quarter, as you know, declined to 30 percent from 31 percent in the prior year, primarily as a result of increased manufacturing and low tax jurisdictions, such as Ireland and Puerto Rico. The annual income tax rate for 2003, as you know, was 30.5 percent.

Turning briefly to the balance sheet, I would tell you that under our accounts receivable securitization program, we had $155 million outstanding at the end of the first quarter. As you know, that goes as a reduction of accounts receivable and also reduces our debt. We had $150 million outstanding as of December 31, 2003, and we still have the capability of borrowing a maximum of $200 million under this program.

Accounts receivable days climbed a little bit in the quarter, up four days to 62 days from the end of the year, versus 59 days in the prior year, primarily as a result of a little bit higher days outstanding in both the U.S. and the Pacific markets. Inventory days were down nicely in the quarter, compared to last year at 121 days, versus 138 days last year in the first quarter, and versus 120 days at the end of the previous year. As John touched on, our total debt, plus accounts receivable securitization declined $5 million in the quarter, down from 176 million to $171 million.

Operating cash flow in the quarter was solid with $58 million working capital changes in this first quarter. We used a little bit more cash than the previous year, primarily in accounts receivable and for income tax payments, as well as for heavier instrument purchases as we prepare for upcoming product launches. But I would tell you that we still expect a very strong cash flow for the year.

With that, I turn it back over to John.

Okay, Marcus, we are ready for questions and answers.

(OPERATOR INSTRUCTIONS). Rick Wise, Bear Stearns.

Good afternoon everybody. A couple of things -- first, on the gross margin front, given the excess, obsolete inventory, writedowns, and currency impact this quarter, with new product launching and maybe less currency impact, do we see gross margins sequentially move higher from here? Is this the low point of the year?

You know, Rick, there's a little bit of a moving target. Clearly, we've gotten a lot of the benefit from Rutherford. I think we have room for margin expansion, but I wouldn't coach you higher at this point in time. You know, there's a lot of moving pieces in there, and currency is an impacter. But I do think over time we still have room to expand the margins.

Just a follow-up on the intangibles amortization, can you give us an idea of how much goes into the (indiscernible) line, SG (ph) and the R&D?

I'm sorry, the intangibles amortization? I'm not following you. That is a separate line.

That's going to be reported as a separate line from here on out?

It always has been reported as a separate line, but it's just been up; it's been in the other expense category as opposed to being listed under operating expenses, if you will. We now compute operating income with that number as an exclusion.

Okay. Last quick question on ceramic -- at 30 percent of the mix flat with last quarter, I would have thought it might move a little higher. Is that a foolish expectation? And where do we go from here? Thank you.

Rick, we're still seeing where it goes. On a unit basis, it obviously did increase in the previous quarter, because the overall hip business strengthened so much more. But we are starting to see a little bit of pushback from some hospitals; some payers just want to make sure they are reigning (ph) in costs and keeping their eye on it. So we still see it nudging higher, but we probably have the biggest growth behind us.

Thank you very much.

Robert Faulkner, Prudential Equity Group.

Thank you. I wonder if you could -- first of all, terrific performance. I wonder if you could comment on the spine business a little bit. What you're seeing in the cages? You mentioned they're down. I wonder if you could quantify that, first, at all. What are some of the dynamics behind that? Is that still infused? Is it other competition? Is it new product due to (indiscernible) classification, etc. And then I will follow up.

Sure, Rob. On the spine business, (indiscernible) were down in the U.S., but up globally. In the total SDI acquisition, we're getting some benefit from some of the additional products that came in there. To frame in and give you a real picture of our spine business at this point, we'd say that we still have some work to do. We did not have much in the way of new products last year. We did just launch Oasis, which is getting off to a good start, really just in the last two weeks of the quarter. We expect that plus our newly-dedicated organization in the U.S. to really start paying off in the months ahead.

Good, and so you don't see -- it's more of an execution issue in your mind, rather than a competitive issue?

Yes.

Okay. And then finally, I wonder if you could talk about just macro issues like a volume in hips. Biomet mentioned that they might be seeing a deceleration based on Zimmer's report and yours. That doesn't appear to be happening, it maybe be company-specific. Are you noticing anything like that? And ultimately, what role do you expect the ceramic implant to play? You mentioned you expect it to cap out around here? How would you describe the typical patient that gets one today, and where it will end up?

Rob, I would say on volume that we have not seen any real drop-off there. We still think that volumes are close to high single digits. And our mix in volume is as high for the total business as it has been in a long time this quarter. We're just not seeing any real volume drop-off.

What was the follow-up part of that question, Rob?

John, it was -- now that you've got this penetration of ceramic implants, can you describe the typical patient who is getting it? And if you think that is the typical patient that will continue to get it?

Let Steve take it.

Sure, the ceramic -- clearly it has started with the younger patients. You know, people in their 40s and '50s. And I think right now we are starting to see that person on the cusp who is 62, for example, that wants it, but a payer might be starting to push back and say, you know, let's restrict it to under 60 here. We're just seeing sporadic cases of a little bit of pushback in the system, and I think we've just got to help our surgeons through that. Because at the end of the day, somebody today who is 60 has a life expectancy of probably still another 25 years. And who wants to be thinking about doing a revision when they're 75? So we still think, and a lot of our surgeons still believe, there's a lot more upside. And we've probably got to help them make their cases.

What does that pushback look like? How does the payer actually get involved -- is it at the hospital level? Or does it even go up higher than that to the actual payer?

You know, frankly, it is sporadic. You know, we're seeing a little more at the hospital level. I don't want to over-blow this.

Is not exactly sweeping the country.

Yes.

Right.

You know, I think the thing -- Rob, as you well know, the patient that you're talking about here, the younger patient, is really going to be determined to get the best thing they can. And if the physician is convinced that this is the best implant for them, they will get it.

I agree completely. And finally, you're getting a lot of price -- is it safe to assume that most of that is coming on ceramic? Or a good chunk of it? Kind of the delta between what you got last year and this year?

No, not really, because to the extent that its ceramic from a different product, it is in our mix and volume numbers. Price is pure price, and that is across the product line. It is not skewed towards hips.

You didn't raise the price of ceramics more than the others?

No.

Okay. Great. Thanks.

Katherine Martinelli, Merrill Lynch.

Thank you, good evening everyone. Just wondered if you could touch base a little bit on direct-to-consumer or your patient education efforts with Jack Nicklaus. Any evidence or data you can share in terms of shareships or any plans to expand those programs this year into either other markets or other products? A little bit of a sense if you've gotten more bullish or less bullish based on what you've seen with DTC (ph) benefits so far.

Katherine, that 30 percent growth in hips is probably our best indicator that we think it is working pretty well. We do not necessarily have plans to expand into other categories or necessarily other geographies. We are taking some of the principles, you know, of direct-to-patient education into other geographies, but obviously executed in very different ways -- just given regulations and all of that activity. But we continue to be very excited about what Nicklaus -- what that whole campaign is really bringing for us, as evidenced, really, by the 30 percent growth number.

If you are, Steve, seeing such -- and clearly you are -- strong growth on the hip side, and part of it is attributable to the campaign, what is behind the decision not to expand it to other areas or other businesses, since so much of what happens in orthopedic is a chronic type of affliction, it seems, would really benefit from DTC overall.

You know, probably call it still a little bit of our conservativism as we go forward. We also want to make sure that we've got a meaningful message. And we have crafted this campaign to be very honest, quite carefully with surgeons. We want to continue to be very careful that we're not going too far and just getting into what I would call crass commercialization, in terms of selling this thing. This really was designed as a patient education campaign. If we can find other ways to extend these to other products, we will certainly be looking at it. But no imminent plans. Our real focus right now is continuing to drive this one.

Okay. Great. And then just one more question, if I may. In terms of the decision breaking apart the navigation business and keeping that in MedSurg. It did seem like a lot of your comments were talking about the potential to leverage navigation with MIS or driving MIS with navigation. Is that more difficult when there is to separate divisions, versus having navigation also sold by somebody on the recon side? I'm just trying to understand better how you actually do leverage those two businesses.

Let me address that. To the contrary, or instrument people get in every account. I don't know of any account that they can't stride into and don't have relationships with. On the other hand, our implant salespeople will not necessarily have a day-to-day working relationship with every single account, because the competition still has more marketshare than we would like. So there are portions of the market that they are not in every day. And the beauty of giving it to our instrument guys is they have -- almost 80 to 90 percent of the accounts in hospital today use their products. So it's easy for them to walk in and establish a sales relationship there.

Okay. That's very helpful. Thank you.

And by the way, Katherine, knees were up 24 percent, so they were not far behind hips. So it wasn't just the DTC program totally working here.

No, that is a good point. Thanks, John.

Jason Witt (ph), Morgan Stanley.

Hi. A couple of questions, first on knees. You guys mentioned AOS (ph), the Triathlon knee system, is going to be launched actually pretty shortly. How should we be thinking about that impact over the third and fourth quarter?

Jason, we should clarify -- that is a late second-quarter launch.

Okay.

So you really won't see any impact in the second quarter. And it will start to build, you know, a little bit more, certainly, in third and fourth.

I guess that means, Jason, that I am the one that is trying to push it into --

That's right. Is this going to be an immediate launch? Or is this something that will take several quarters to fully get the instruments, etc., out to doctors?

We hope to get them out pretty quickly within one quarter. So I think you'll really see a pretty fast rollout within the third quarter.

Okay, another question on hips, then. You guys have mentioned over the past few quarters that it looks as if a lot of hips are being replaced. Instead of getting a hip replacement, basically, they are doing more of a partial hip replacement in that region. Is that isolated to Japan? Or is that something that is happening also in Europe as well? And I guess, also, maybe I mis-heard, but it sounded like I heard that volumes are about 4 percent overseas. And is that related to this effect?

Jason, yes, the comment relative to the movement to hip fracture devices is really a Japanese market phenomena. They've used a bipolar hip over there many times to treat hip fractures, and now they've moved to a pinning device. That certainly is part of the reason for the 4 percent international growth. Part of it is also something that Steve touched on -- Steve and John both touched on -- which is, in Europe are growth is down a little bit, but to some degree, in our core markets, it is still pretty strong.

Can you add some color to what is going on in Europe in terms of hips?

Well, the one thing we said about Europe is we've almost -- I won't say purposely -- but we've slowed down our export business by holding them to tighter credit terms. And that is impacting our business across Europe, but in the core markets, it is stronger.

Okay. One last question and that is on spending. You guys had some pretty -- what I though was more aggressive spending goals for this year, and that was mainly based on building your sales forces out 10 to 15 percent. Has most of that work been done? Or is that still something that is going to be spread out for the remaining quarters of the year?

I would say that we have added sales force, but we've still got a fair amount to add to get to the goals that we talked to you about at the end of the year last year, in terms of what we're targeting sales force adds.

And it sounds like, based on your performance this quarter, you're not going to slow down that effort at all.

It doesn't seem like there would be any reason to.

Right. Thank you very much.

William Plovanic, First Albany Capital.

Great, good evening. Just to add on to Jason's question there. You talked about tightening the credit in Europe. We've had a couple of slower quarters in Europe on a constant currency basis, or actually internationally. Did this start in the fourth quarter? Or when did you really start tightening up?

Sure, this is really focused on our export business for the most part, which is Europe, Middle East, and to some degree, Africa. We should clarify that we tend to report within Europe. It was mostly really started in the first quarter.

Okay. And then, just help me understand, if I look at your fourth-quarter numbers, your knee and your hip business was a little slower than it had been traditionally, as well. Is there something else impacting it?

If you take a peek at fourth quarter to first quarter, what we saw is an acceleration of our hip and knee growth in first quarter in our core countries. So we had -- we did have a bit of a business slowdown in fourth quarter in Europe after, frankly, three very strong quarters. If you think about it, our operational growth rate in Europe last year was 13 percent. So, we think clearly well above the market. It was a little softer in the fourth quarter. And frankly, it was still a little soft early in the first quarter, but we see it coming back very.

In the fourth quarter, keep in mind, I think Japan impacted those international numbers, too. Japan was stronger in the first quarter than it was in the fourth quarter. It was pretty soft in the fourth quarter.

Okay. Great. Thanks a lot.

Wade King, Wells Fargo Securities.

Congratulations on the strong quarter. First question for Dean -- the EPS was so strong in the quarter, yet obviously the cash flow was not quite as strong as we expected. You mentioned the spending as it relates to instruments and the like. Can you give us an idea of what your expectations are for the year, in terms of cash flow? And also where you expect you to be in terms of the paydown of the debt?

Well, I think it is our expectation right now, assuming nothing else that would usurp cash out of the ordinary, that we would pay off the debt sometime in the third quarter. Relative to cash flow for the total year, it will be at least as good, and probably better, than last year. I think, fundamentally, in accounts receivable -- I don't want to say we've hit a plateau, but it seems to be -- sixty-day seems to be as sticky point on receivables. I think we still have room to bring inventories down, and the business is growing pretty fast, so receivables do true up a fair amount of cash. But we still feel like we're going to have a very strong cash flow year.

Okay very good. And I think, Steve, you indicated that within that 14 percent growth of units and mix, units you still estimated that 8 -- you said high single digits -- I presume that is 8 to 9 percent, and thus the mix contributed maybe 5 to 6 -- is that right?

Yes, that's about right.

Very good. And lastly, if I may. Maybe, John, this is for you, given year tenure as it relates to the OP-1 development of opportunity. Given the recent HDE for the party for revisions, spine and the ongoing clinical trials that you have in spine, can you give us an idea of what your strategy is. Certainly with the launch of the OP-1 Putty, and then looking ahead, hopefully, to a much broader opportunity for the product in spine. How are you going to craft the marketing strategy? Take it to the doctors and obviously, hopefully, drive the sales prospects for Stryker?

Well, we are under some fairly strenuous restrictions on this, with this HDE. On the other hand, I really do think that this Putty formulation is going to be a lot better. I have seen our old implant put in; I've seen our new one put in. And the handling characteristic of this Putty is really nice. And a couple of the doctors have mentioned to me that they really do like it compared to the old one. So I think that that is going to be an advantage. And I think that as more and more of the clinicians use it when we launch it in the third quarter, they are going to find that it really is a good formulation. And our expectations are that they are going to get very good clinical results. I think overall this is going to be the kind of the second-biggest step in getting this product launched in the U.S. And obviously the third step would be when we can eventually get approval for regular spinal use.

Is there any update on the clinical trials in spine that you could give us as it relates to the potential timeline for, once again, the last phase of expanded spine use for the product?

Well, you know, we are in follow-up on both the clinical trials right now. It's a two-year follow-up on the North American study, and we really can't comment on any results on that.

We're in the third -- we're six months into that follow-up already, aren't we -- ?

Yes, just about. (indiscernible) near the end of -- you add another 18 months, we'd be done with that. And we're about as far along in the one-year follow-up study on the Phase II study. The instrument study is done in Japan.

I think the other two things here to take away are -- one, we think we really do have a super biotech executive in Mark Phillip, who has just joined us. You folks will get to meet him at the appropriate time. Secondly, I think Steve is committed to turning this into a business force down the road. So we've got a lot of work to do, but on the other hand, we are very confident and are very excited about the opportunity for the future.

Very good, thank you. Great job.

Bob Hopkins, Lehman Brothers.

Hi, thank you and good evening. Just two quick questions, one for John or Steve and one for Dean. For John or Steve, I just wondered if you could help us a little bit with some thoughts on the outlook for growth rates for your hip business going forward. Obviously, you've seen some terrific growth here. But looking forward, you'll face the anniversary of your ceramic business, and obviously at some point, some new competition coming there. So, if you could give us some commentary on the outlook for hip growth? Can we maintain high teens growth on a constant currency basis that's been achieved?

And then, the second question is for Dean. I was wondering if you could take a minute and refresh us on your F-ex strategy and the outlook you have for F-ex going forward, and how that might impact topline? Thanks very much.

In terms of the outlook for the growth rates, clearly you've hit on the issue that we've had our four -- 420 percent-plus, the last one being a 30 percent-plus quarter. And this was against a lower comp in terms of the base period. Now, we're going to be going up against the launch from last year. So you'll probably certainly see a sequential tailoff. We still think we've got some momentum, and certainly the high teens is an expectation that we think we ought to be able to hit.

Okay. And then, if you're willing to make this kind of a comment -- if not, I understand. It seems that there's a little bit of a dichotomy here, especially in the hip market, with you guys and Zimmer and Nephew (ph) really doing quite well. And the two other large U.S.-based players seemed to tail off. Besides just relative pipelines and product flows, is there something else going on here in your opinion?

I don't think so. And I think we would be very cautious about saying who the winners and losers are going to be here. Overall this market is a very robust market. The baby boomers that are moving in the market now are going to continue to drive this market. And the eventual choice here would be made by the clinicians, as to which products they think they are going to get the best results with. We just think that our chances are very good. We've got good technology and we've got more on the drawing board. So our expectations are to continue to be successful at it. But I would be hesitant to pinpoint any particular competitor that we might get business from.

Sure. And Dean, on F-ex?

On F-ex, our strategy is really to do nothing operationally on the P&L, other than to -- what we do do is hedge the balance sheet positions that we have in nonfunctional currency. So in other words, if we have a nonfunctional currency receivable or payable, we hedge that to the expected payment date when it goes on the balance sheet. You now, try to take F-ex gains or losses out of the equation in that regard, although we obviously don't do that 100 percent.

Relative to the topline, we really do nothing to hedge that. We look at that from the standpoint that, given where we manufacture product, we feel that we have some reasonably natural hedges in place, although it is clear that, given the weakening of the dollar, we definitely have got some bottom-line benefit. But over the years, we've found that it doesn't help us or hurt us so much that we can't work around that without having to put any elaborate hedging strategies on the topline in place.

And is that quantifiable this quarter? That bottom-line impact from F-ex?

I don't have any real numbers on that. But, clearly, it is helping us. And it has been for some quarters.

Okay. Great. Thanks very much. Have a good evening.

Ben Andrew, William Blair.

Hi, good afternoon. Just a couple of quick questions. First, Dean, could you just clarify, would we expect the SG&A spending as a percent of revenues to follow its typical trend and come down here, even as the dollars keep going up through the course of the year?

I think that you could expect some of that. It does depend on -- we've said time and time again here that the business is strong and we're looking for opportunities to make sure that we position the business well for future growth. So we are making incremental decisions on that line, and the sales forces is one. As I said, we still have more hiring to do there, but it is somewhat natural that it does usually start to come down, particularly in the third quarter. And that ends up being a little bit more of a mix issue because the implant business is normally a little softer with surgeon vacations and things in the third quarter. And it does cost more to sell our implant products. So I think you can expect to see somewhat of a normative trend there.

And to the extent that you can get at this, it's a question about MIS procedures. Do you really look, at this point, the percent of your total procedures that are done that include some aspect of an MIS approach? Or is it even possible to really do that the way your instrument sets are out there?

I don't know that we've got a great -- you know, a precise answer on that. We don't track it quite that way.

Are there other ways that you do look at it that we might look to guidance to you about how that is kind of flowing into the marketplace, and what impact it is having for you?

You know, our folks are certainly looking at it. As we are going at it, we still view MIS as just part of a total package here. And we're trying to put some instrument sets out there. We have not been tracking them specifically relative to other instrumentation sets. We might do that a little bit more as we go forward. But again, we're just trying to offer surgeons the various options that they need.

Okay. Thanks.

Michael Lachman, Think Partners.

Good afternoon, and thank you. Switching from the SG&A side to R&D, I know you’ve talked a lot about the increasing focus on innovation and R&D certainly accelerated last year. How should we be thinking about R&D spending over the next couple of years, either in absolute dollar terms or as a percentage of sales? And the follow-on -- how do you measure R&D productivity? Is it percentage of sales from new products or some other metric? And what are your expectations there? And is it too early to be seeing productivity improvements already?

You know, Michael, in terms of spending going forward, let me start with how we really approach it, which is, we don't gear it around percent of sales, we gear it around the projects that come up from the bottom up. And our R&D is very much managed division by division around what products and what opportunities they see. So we're not approaching with the top-down -- here's a percent of sales that we're going to spend. Having said that, we think we've identified within our divisions a number of ideas that clearly boosted the spending last year. And you're starting to see the effect of that certainly in our first-quarter results across the board. We had probably more new product launches in the first quarter this year than we've had in some time. We think there is still a lot to be had out there. And would expect the R&D spending to still stay strong through the year, and hopefully continue going.

In terms of how we track it, we've implemented some more metrics -- you know, we tend to be a pretty numbers-driven, measurement-focused company. We have introduced some more metrics to track everything from time, slippage rate, everything. And we are dialing up the intensity of how we track our R&D process and productivity, and trying to certainly get more productivity out of the money that we're spending.

Are there any particular parts of the business that are getting more of this incremental focus than others?

Not really. We see innovation opportunities in everything. One can argue, medical is one of the lower tech businesses. We've got tremendous innovation coming out, even in that business.

Great. Thank you. One other question, I don't know if you mentioned on this call, but the 5 billion in '05 is a goal that you’ve talked about. I guess if you guys keep putting up quarters like this, you'll get there without any M&A. I just wanted to find out how literally you take that goal and should we be thinking that some level of M&A is necessarily required to get there?

Would you like me to take that, John? I will take that. We work for a company, and frankly, we have a person -- and John Brown has always set aggressive goals that galvanize us as an organization to achieve it. Our internal approach has been, "Let's figure out how we get there, organically.” And we -- it is part of, frankly, the boost in R&D. It is forcing us all to look and forcing our divisions to look a little bit harder for what else we can do and it is part of the expansions that you're seeing in our selling organizations and our R&D. It is very aggressive. But we are clearly working very hard to try to get there on our own. And we're not going to do an acquisition just to try to achieve a goal like that. We will not do that. Certainly, if we find something, great.

Thank you.

I would say that Steve has really done a good job in a couple of areas here. One, he's done a very formal review of all the R&D projects and is really doing a good job of setting up formal reviews with all divisions with the R&D people, measuring what they're doing with new products. And secondly, he's taking very seriously the 5 in 5. So personally I feel very good about the direction we're headed there.

Great. Thanks a lot.

Steven Litchman, Bank of America.

Thank you, good evening. Most of my questions have been answered. On the U.S. trauma business, clearly very tough comps. I was just wondering if you could give your thoughts on the growth for the rest of the year and what the drivers would be?

It better be better than 4 percent for the year.

(indiscernible)

Yes, and that's where -- you know, the underlying growth really was close at a 14 percent. We would hope to be able to at least achieve that. We’ve probably got some work to do in terms of enhanced focus. I think our exceptional performance in recon has probably pulled a little bit of attention from trauma and we're talking about that in terms of trying to refocus some of those energies right now.

Steve, I would also add that we've got some nice products coming out there, including our Gamma-3 hip fracture product, which was just introduced with very minimal sales this first quarter. But I think that's going to be a very nice product that’s going to help us drive that business, that part of that business going forward.

Great. Thank you.

(OPERATOR INSTRUCTIONS).

Marcus, that means you don't have anybody waiting.

We do have two participants. Dhulsini De Zoysa, Fulcrum Global Partners.

Good evening. I'm glad to get in under the wire. Following up on that question regarding your cash generation for the year. Could you help us think about your uses, the potential uses of cash? Any change in your dividend policy? Or possibly your appetite for acquisitions? And then I have a follow-up.

Sure, I would be glad to address that, Dhulsini. I don't think that anybody’s ever going to buy Stryker stock on the basis of its dividend, not anytime soon. So I think we would not -- I would not see us planning on any major increase in the dividends; it would be somewhere in line with what it has been in the past. As far as acquisitions are concerned, I think Steve outlined it pretty nicely. We will buy ideas and we'll buy things that we think are going to contribute to our growth.

Okay. That's fair. Following the academy meeting, would you say that your interest in the artificial disk area has increased or heightened? Or about the same? Decreased? And what are you thinking in that regard?

Well, I think we're thinking about it. I wouldn’t say that it's increased or decreased. I think, you know, any activity into our markets that captures the interest of the clinicians, captures our attention. And disk is one of them.

Okay. And then, John, are you saving those three extra pennies for your closing comments?

Which three is that, Dhulsini?

You beat expectations by three pennies this quarter, I'm wondering if there is any reason to think we can't just let it flow through for the year?

I’ll be happy to address that when I close.

Great. Thank you.

Jason Witt, Morgan Stanley.

Thanks for taking a follow-up. Just very quickly, internationally, I guess in Canada, within the medical division, you had a very strong growth. Is that to be thought of as a one-quarter event? Or is that something that should continue for the rest of the year?

Probably assume that is closer to a one-quarter event. We've got good underlying growth there. But there were some big orders placed, really in March.

Okay. Thanks.

Mr. Brown, there are no further questions at this time. I will now turn the call back to you. Please continue with your presentation or closing remarks.

Okay, thanks, Marcus. And again, for those of you still on the line, we are grateful for your taking an hour and fifteen minutes to listen to us. We hope you found the report helpful.

We really did have an excellent first quarter. And we are optimistic about all the markets that we're participating in. In my 25 years with the company, I don't think I've ever seen the markets, in general, this healthy across the board. They are really strong.

Clearly, the foreign currency gave us a kicker in the first quarter, and if the rates hold where they are right now, you can expect continued support from foreign currency exchange rates for the second quarter and third quarter. And in the fourth quarter, it will pretty much be a breakeven, assuming no change in the exchange rates from where they are right now. We would hope to do 4.3 million -- 4.3 billion -- or come awfully close to it. I think our thinking around the table here now is that we have a good shot at it.

We are raising -- in answer to Dhulsini’s question about the 3 cents. We are raising our projections for the year to $2.80 per diluted share. That would be up 26 percent over previous year. We are looking for a good second quarter, and if you would like to tune in on that, expect that at 5:00 on Thursday, July the 15th, 90 days from today.

Again, thanks for calling in, and we’ll look forward to talking to you next quarter. Thank you.

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines.