Zimmer Biomet Holdings Inc (ZBH) 2003 Q2 法說會逐字稿

Good morning.

My name is Leslie and I will be your Conference facilitator today.

At this time, I would like to welcome everyone to the Zimmer Second Quarter 2003 financial results Conference Call.

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This presentation contains forward-looking statements based on current expectations.

Estimates, forecasts and projections about the orthopedic industry, assumptions made by management, these statements are not guarantees of future performance and involve risks and uncertainties and assumptions that could cause actual outcomes and results to differ materially from those in the forward-looking statements.

For a list and description of the risks and uncertainties look in disclosure materials filed by Zimmer with the U.S.

Securities and Exchange Commission.

Zimmer discounts any intention or obligation to update or revise any forward-looking statements whether as a result of new information, future events, or otherwise.

This presentation also contains non-GAAP financial measures.

A reconciliation of such information to be comparable to GAAP financial measures will be furnished in our Form 8-K filed with the SEC and may be accessed from the Zimmer Web site at www.zimmer.com.

This presentation is neither an offer to purchase nor solicitation of an offer to sell any securities.

Zimmer's exchange offers of shares (inaudible) capital being made only through registration statements and related material.

Zimmer's and it's directors, officers and other members of its management and employees also are soliciting proxies from Zimmer's stockholders in connection with the exchange offered.

Investors and security holders should note that the exchange offers have not been agreed to by Centerpulse and InCentive Capital are subject to certain conditions.

In connection with the exchange offer, Zimmer has filed registration statements on Form S-4, containing a prospectus offer to purchase and proxy statement on schedule 14-A with the U.S.

Securities and Exchange Commission.

Estimated source offer, prospectuses, (inaudible) board.

Investors and security holders of Centerpulse, InCentive Capital, and Zimmer are advised to read these disclosure materials, including other disclosure materials when they become available.

Because these materials contain important information, investors and security holders may obtain a free copy of the disclosure materials and other documents filed by Zimmer with the U.S.

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Sir.

You may proceed.

Thanks very much, Leslie.

Good morning everyone and welcome to Zimmer 2003 Conference Call.

We are pleased to host this call to discuss a solid quarter and continue good beginnings to 2003.

Today's call will be scheduled for one hour.

Joining me today are Sam Leno, SVP and CFO, and Jim Crines (ph), VP and Corporate Controller.

I hope you received a copy of last night's earnings press release.

If not, you can obtain a copy from our Web site at www.zimmer.com.

Please feel free to contact Sam, who will have a copy faxed to you, as well as add you to our e-mail distribution list.

We will begin today's call with comments for second quarter result s following an update on operations, followed by Q and A discussion.

All results and discussions are based upon the asset method of the accounting for instruments for 2003 and expense method for 2002.

We will be focusing our conversation with you on the results.

It is not our intention to devote time to our proposed acquisition of Centerpulse.

Having said that I do want to contribute one thought with respect to our Zimmer team.

The ability and task of taking 55 full-time people 100% from their jobs and delivering more than 10,000 man hours of due diligence, composed of 200 Centerpulse interviews and some 2000 pages of original material in less than three business weeks, without allowing the company from being defocused from its quarterly financial goals and obligations is a real and rare accomplishment.

And I particularly wanted to publicly commend our team.

Let me begin with the fundamentals of P&L and balance sheet performance.

Consolidated sales for the second quarter were $411 million, an increase of 19% over prior year, a sequential increase of more than 5% from the first quarter and approximately $5 million higher than current consensus Street expectations.

Worldwide sales in constant currency increased 14%.

This continued solid performance was importantly led by real volume mix growth of 12% in the quarter, which was 1% better than prior year's second quarter.

Worldwide price improvement remained firm at 3%, and the Americas at 4%.

We believe price is beginning to settle in at rates closer to what we expect to see in 2004.

Our Americas business continued excellent growth in the quarter at 17%, and Europe has dramatically increased reported growth of gain versus prior year to 43%, more on Europe later.

We experienced improvement in Asia Pacific to 11%.

On a year-to-date basis worldwide sales increased 21% reported to $801 million and 16% constant currency with the Americas and Europe delivering the strongest results at 18% and 44%, respectively.

For your reference, all year-to-date earnings related discussions exclude the cumulative adjustment of $55.1 million related to the change in accounting policy for loaner instruments implemented during the first quarter.

Diluted earning per share for the second quarter was 45%, increase of 32% over prior year and 3 cents better than First Call Street estimates.

Year-to-date delivered EPS results were 85 cents, increase of 37% over prior year.

We continue to be very pleased with our company's efforts to drive each line of the P&L to earning growth always greater than sales and of course excellent free cash flow.

In the second quarter, cost of goods sold increased by only 16% versus 19% increase in sales.

As noted in our press release, Industry Week just named us best companies.

Gross profit dollars increased by 20% and gross profit margin versus prior year improved by another 80 basis points to record 76%.

This gross profit margin of 76.1% was sequentially an increase of an additional 90 basis points from first quarter 2003.

We believe that at 75.6% year-to-date, our gross margins remain the best in the industry.

SG&A expenses continue to be very well managed at 37.8%. 210 basis points improvement over second quarter 2002 and sequential improvement of 60 basis points from first quarter 2003.

For your reference over a full three-year period we have delivered exactly 400 basis points of cumulative improvement in SG&A from the 41.8% ratio recorded in the second quarter 2000 to 37.8% this quarter. 37.8% is the lowest quarterly SG&A ratio to sales since we began the turnaround in 1998.

For the quarter and consistent with the type of performance we are looking for SG&A expenses increased only 13%, despite a 19% sales increase.

Year-to-date, SG&A expenses to sales are 38.1%, 230 basis point improvement over prior year.

We continue to be very pleased with the positive earnings drop-through gained from new sales.

Each incremental sales dollar in the second quarter cost only 27 cents of incremental SG&A spending.

Our lowest cost per new sales dollar since we became a public company.

This consistently translates into our current gross profit, almost 50 cents in new operating profit for each incremental dollar of sales of other prior year basis.

While our ability to deliver significant positive drop-through operating earnings from revenue sales dollar have long been a driving force behind our strategy and I would have a crucial EPS creation edge that also provides broad flexibility for potential reinvestment.

We continue to successfully operate another key strategy, working dollars model, defined as driving down cost of goods sold, G&A expenses and cost of working capital while simultaneously investing in high ROI sales and prolific pipeline through premium products and procedure development.

This particular model is entering sixth year successfully uses a metric consistent with the working dollars philosophy and we are executing our plan to invest in R&D with the top of class with a target of 6% to sales and this quarter at 5.5% albeit base of higher revenue base. (inaudible) this quarter, our R&D investment at $23 million increased by $3.5 million or 18% in absolute terms versus the second quarter 2002.

On this base, we are very close to annualizing at $100 million per year in R&D investment.

A year-to-date R&D ratio is also 5.5% with real R&D spending up 15%.

We are pleased to report that operating profit grew in the quarter by 30% above prior year, an increase of 290 basis points.

These results continue to reenforce our strong belief in the capability of Zimmer and the industry to repeatedly deliver accelerated earnings in a positive sales environment without sacrificing any key sales, marketing or R&D investments.

These results represent significant over achievement of one of our regional and internal mass downs of 30% operating margins.

This quarter we delivered an all-time Zimmer record of 33% operating margin to sales with year-to-date not far behind at 32%.

Net earnings in the period were strong and increased by 35% based on solid operating profit, declining interest expense, down to only $900,000 for the quarter and reduction to prior year period tax rate from 34.2% to 33.5%.

Net earnings not only reached $89 million for the quarter but as important driven by 250 basis point improvement over prior year easily surpassed another original internal milestone of 20% ratio to sales.

During the quarter we achieved a record 22% net earnings ratio to sales.

As noted in our press release, all three key margin indicators, gross, operating and net delivered all-time Zimmer records.

As previously mentioned diluted EPS in the quarter increased 32% to 45 cents with $199 million average diluted shares outstanding.

We are particularly pleased with that 45 cents because it reflects strong performance on not one or two lines, but rather every at single line in the P&L.

Year-to-date EPS was 85 cents, an increase of 37%.

At this point, I will provide some very brief introductory cash flow and balance sheet highlights.

Free cash flow for the quarter and year-to-date was at the extreme favorable end of our expectations, registering $90 million and $162 million, respectively.

Operating cash flow in the quarter was our best ever at $122 million, and $227 million year-to-date.

In the quarter, inventories increased by $15 million to $281 million due to building of multiple new product pipelines.

But as indicated from previous conference call, 257 days remains within the near-term forecasted range of 250 to 260 days.

Consistent with prior quarters accelerated accuracy is more than 98% and global forecast accuracy is more than 90%.

Asset management focus dedicated infrastructure and attention to specific working cap metrics continue to drive effective performance.

Our industry-leading receivables collections continues to provide support for superior cash flow production and helps define some tough balance sheet metrics in the medical device industry.

In the second quarter, we continued our U.S. receivables at record level of 31 days for a $1 billion hospital business with terms of net 30.

We would be remiss in not recognizing the contribution of Zimmer international businesses that helped to deliver second quarter receivable numbers of 57 days globally.

For us, though, it is the exciting news on the P&L is record margins and 45 cents in EPS.

The exciting news is on the balance sheet about net debt.

We are extremely pleased to report that we are in net positive cash position of $39 million, produced by combination of $115 million of cash on the balance sheet, offset by $76 million of very inexpensive Japanese Yen debt that we elected to retain.

The reasoning is simple, we earn more on the money from the spreads of the U.S. excess cash than we pay in Japan interest.

In approximately 21 months as a public company we have fully paid down original net debt, reduction of almost half a billion dollars.

For the 3600 undoubtedly nervous Zimmer employees (inaudible) in somewhat unknown future and $450 million in debt with no equity on August 7, 2001, they can all be equally confident that the mortgage has been paid.

Let's review the quarter's sales in detail.

Reconstructive sales for the Zimmer is revenue recognition of hips, knees, shoulders and elbows implanted into patients during the reported period.

For the second quarter worldwide reconstructive sales increased to $327 million, representing strong record increase of 22% over prior year, 17% constant currency and 6% sequential increase over first quarter 2003.

With 17% constant currency increase over prior years in the quarter is a particularly important accomplishment since the second quarter of 2002 versus 2001 comparison was a difficult 21%. 17% over 21% is the toughest local currency reconstructive comp accomplishment in the industry and should prove to easily be the topic constructive growth in the quarter versus our major competitors.

This is a solid achievement in light of Zimer's reconstructive sales base of more than $1 billion.

Year-to-date reconstructive sales were $637 million, an increase of 24% reported and 19% constant currency.

Many analysts believe that on reported basis the worldwide reconstructive market grew approximately 15% for 2002.

Based on the public reports of major competitors we can assume local currency worldwide recon market growth in second quarter 2003 was approximately 14%.

Based on this fact, Zimmer has again expanded its rate of growing faster than the market by more than 20% this quarter.

Let's take a closer look at each global product in geographic segment.

First products in the knee category on worldwide basis in the quarter, knee sales increased 24% to $183 million versus prior year and 18% constant currency.

These results include sequential growth of 6% versus first quarter 2003 and compares to 22% constant currency growth achieved in second quarter 2002 versus 2001.

In other words, 18 over 22 as local currency comp.

In dollars on a reported basis, this represents Zimmer knee gains of more than $2.5 million per week versus the prior year quarter.

Stated differently, we remain more than 500 new Zimmer knees implanted every single week this quarter that were not there same quarter last year.

By anyone's standard that's a lot of Zimmer knees.

Our global knee strategies are paying off with consistent significant market share gains.

In not a few countries but literally everywhere, in the second quarter, the Zimmer businesses in the domestic U.S., Latin America, Germany, Austria, UK, Italy, Spain, Norway, Sweden, Finland, Russia, Central and Eastern Europe, Australia, China, the Middle East, Africa and the Mediterranean all remarkably delivered not reported but local currency knee sales growth in excess of 20% to prior year.

The successful introduction of Prolong, specially designed Crosslinked Polyethylene for NexGen cruciate-retaining new knee articulating surfaces is simply delivering great results.

One year in the market, Prolong in the quarter represented 11% of our total knee Articulating Surfaces sales and nearly 35% of all Cruciate Retaining Knee surfaces.

The market uptick for Crosslinked and Zimmer NexGen CR Knees is only very slightly below our earlier Stage Longevity Crosslinked polyliners as were for hips.

In addition to early Prolong success we have recently launched Trabecular Metal mono block tibial trays with annual trend on single product have doubled in only three quarters to amazing $20 million per year with demand at this point partly at stripping supply.

For the new NexGen Trabecular Metal Module block tibial tray this represents not only immediate technological and commercial recognition but a real belief in a new forward speculation solution for knees.

Our success with Trabecular Metal tibial trays reflects changing market less likely to tolerate (inaudible) created by Backsidewear (ph).

Last quarter's down classification of porous knees were only enhanced with what we already know and expect to be broader acceptance.

Our Zimmer MIS MG units have grown on worldwide basis to another 14% in the quarter as results begin to lap prior year consecutive 100% growth comps.

Zimmer MG knee with EMNIM minimizational instrumentation finished the quarter of the sales projecting to more than $40 million annually in 2003 and remains the most popular single brand in the world.

Our NexGen LPS Flex Knee is in the light sell design product has continued to gain share in dramatic fashion during the quarter.

On a worldwide basis, LPS Flex Femorals grew by another 54% versus prior year, this is also a powerful 11% sequential increase from the first quarter.

I will update during the progress of the sister product, the CR flex during the product development section.

On a different version of Flex Knee and thanks to some effective competitive sub segment marketing on surface hardened than knee femorals we also enjoyed 77% increase in NexGen Conidium Flex Knee sales during the quarter.

We are now expecting to approach the price in $20 million in annual Conidium flex sales for the most part without the domestic U.S. market.

Conidium is a 5 year old Zimmer patented process to harden the surface of a cobalt crown demo.

Conidium is not a coating, but permanent surface reaction caused by controlled exposure to nitrogen.

While ED has been a successful proponent of this product, we will of course take an aggressive and fresh look at the large domestic U.S. market for Conidium Flex Knees.

Knee revision continues upward trend with a NexGen LP 2k systems delivering a 21% increase over prior year.

Our new RHK rotating hinge has quickly become a $10 million product line in the very early stages of its product life cycle.

Of course there is considerable progress in the Zimmer minimally invasive knee front.

I will update that activity later under Hot Topics .

Lets take a closer look at hips, on worldwide basis in the first quarter, hips sales increased 19% to $133 million, a strong sequential increase of 5% and grew 15% constant currency.

On a year-to-date basis hips grew 22% to $260 million and 18% constant currency.

Zimmer porous stems continue to make meaningful market share gains and accelerate more than 2 year long growth run with increase of 33% in the quarter.

Zimmer versus Trabecular Metal paper stem long a standard in our line-up, grew more than 90% in the quarter.

This product has become the stem of choice for Zimmer MIS 2 incision hip procedures but more on this later.

Porous revision stems along with revision cups and liners continue to be an areas of focus of Zimmer and our sales supported that with an increase of 30%.

These results include our ZMR product line vision on a standalone basis we moved well above prior year.

Our new proximal support design enhancements for ZMR are expected for the late summer.

We anticipate a continued upsurge in sales for Zimmer's entire revision hip line, but particularly for the ZMR in Europe.

(inaudible) Trabecular Metal Module blocks cups alone are a new $10 million plus product line, despite extremely tough comps, significant penetration and the second quarter U.S. competitive introduction of ceramic and ceramic alternate bearings, premium-priced Longevity hardy crafts and polyethylene shell liners increased by 33%.

Sequentially up a very strong 7% over the growth we saw in the first quarter and annualized for the first time ever to be a $50 million product line.

We now believe competitive surge in acceptance is growing with the continuing stream of scientific analysis from Invival(ph) retrievals, new RSA studies and differentiations specifically as it relates to Zimmer's Longevity brand.

We released our national marketing campaign titled Zimmer Wear, not options that favorably reviews on (ph) capabilities versus selamic(ph) and selamic (ph) limitations.. to a great reception from our surgeons.

The proof of course is always in the pudding. (inaudible) in the quarter regular poly, crosslink, revision were up 28% prior year, a nice quarter.

In upper extremity joints, Zimmer (inaudible) shoulders continue to take market share in the world with 24% growth in the first quarter -- excuse me, second quarter, and 27% year-to-date despite the release of several new competitive shoulders over the last 12 months.

Based upon year-to-date results, our annual sales projections for shoulders and elbows continues to easily exceed $50 million.

Our worldwide basis, trauma sales were off to continued summer softness, with second quarter sales up 8% and year-to-date 9% in markets that we believe are growing 10 to 11%.

Our review of the market, scheduled new products, early surgeon response to new ITST retrograde (ph) and potential account conversions does not seem to indicate any significant long-term negative underlying issues provided that the ITST can help recover some lost (inaudible) share in both the U.S. and Japan.

With or without Centerpulse, Zimmer will strategically require a titanium nail line to compete more effectively.

Several (inaudible) delivering excellent results as Zimmer (inaudible) continue to strong penetration against the trauma market leader with 51% growth in the second quarter.

In orthopedic surgical products, our (inaudible) auto transfusion system designed specifically for SP (ph) increased by 53% in the quarter and continues to generate sales of $20 million annually.

Let's switch to new product development update.

As you know we currently have 30 active major products and robust pipeline with most of those scheduled for release in 2003.

Included in the 30 plus projects we have 12 new projects added to full development, another half dozen or so under pre-Phase I review to 2003 alone.

Our goals provide you with project name, scope and whether the release continues on schedule.

In these development commercialization, our patented arc rotating hinge, the RHK was released and already scoring some sales successes.

Trabecular Metal and NexGen LPS (inaudible) components, 32 new implants were released and similar the RHK shown very strong early sales.

We have of course, in recent times initiated three new projects as follows, both CR Flex fixed and mobile continue on plan.

Following the footsteps of highly regarded LPS flex, our first implantation was concluded successfully in December 2nd 2002 in Utah.

Since then, some 575 CR Flex fixed additional surgeries have been performed.

We anticipate strong acceptance for CR Flex fixed 141 new implants.

There is a great news on our launch pattern..

The somatic imporous products will now roll out late this summer with only the porous HAT (ph) coated is scheduled for January of 2004.

The opportunity is a huge one.

Globally the knee market is still almost 50% cruciate retaining and as a precedent we have already a sales of more than 20,000 posterior stabilized flexes on an annual basis.

In addition, Prolong pros and poly for the LPS Flex Posterior Stabilized and remains on schedule for 2004 new product release.

New (inaudible) femoral project with some potentially clinical solution (inaudible) full cadaver development session in Zimmer institute in June and continues on schedule.

Our new fixed and mobile bearing units covering both Trabecular Metal and Prolong pros and poly completed two full cadaver session and 148 new instruments remain on schedule at 2004 new products.

MISTK systems and (ph) and our QS knee updates will be covered under Hot Topics.

Now, let's move to hip development and commercialization.

The Apollo system project 358 new porous hip stems due for phase end release for 2002 and 2003, almost 200 stems were released along with (inaudible) during 2002.

The new Apollo stem has been released already jumped sales to $20 million plus product line.

The remaining 6 inch 4 coat extended offset stem as well as the 8 inch and 10 inch straight in both stems are scheduled for the third and fourth quarter of 2003 with major new product impact in 2004.

Trabecular Metal modular cuff - this project is increased inside by 13 implants to 61 implants from the original 48 .The project release date has been delayed during our first quarter conference call to the second quarter 2003 and pleased to report we have planned of first ten cups in June and now more than 2000 cups in finished goods inventory with our rollout already initiated.

Our new Nail conservative hip stem, with and without HET CPT coating and with new MIS instrumentation, will be launched through the July to August period of this summer.

We have also just received five 10-K clearance for the release of our ZMR large junctions, composed of 58 implants and a full launch of both the taper and porous components ahead of schedule for this month.

And in trauma development and commercialization, Periarticular 2, our contoured plating system with 289 new implants for phase and launch, has just completed final release and has already quickly contributed, in part, to our 50% plus growth in Peri Plates.

Flat fracture (inaudible) plates will be released this quarter and a new foot and ankle set for next quarter.

Importantly, new Peri locking stop plates are being prepared as a key 2004 trauma new product.

A major license agreement will provide Zimmer with a new external fixation risk system called Restore, that we are excited about for 2004.

And of course, during the second quarter we purchased 100% ownership of the Immedica TransFx External Fixation products, to better control development, manufacturing and expand margins through vertical integration.

We have initiated approximately 12 new internal R&D projects, some of which we have already provided initial comments on.

Although, for the most part, it's too early to provide real project status reports, I would remind you of their content.

The projects themselves represent a very specific insight into Zimmer's organic growth strategies.

Trabecular Metal stems, dedicated MIS stems, Zimmer Segmetal (ph) Oncology system, new MIS Unis, unique design concepts for three consecutive advance levels of our MIS Total Knee, a new technology shoulder, MIS Spine, MIS Transformational Hip Fracture Solutions and a myriad of codevelopment investment opportunities in Biologics, Image Guidance and the operating room of the future.

In short, they represent innovative, premium-placed products and procedures, rich in Zimmer intellectual property and designed for possible market share gain and landscape change in Orthopaedics.

In total, on a rolling 36-month basis, new products represented 17% of our sales in the second quarter, consistent with our long-term strategic growth since 1999 to have internal new product sales between 15 and 20% on an annual basis.

Let's look briefly at the geographic segments, first in the Americas.

We've delivered another excellent quarter in the Americas.

Revenue for the second quarter was $274 million, up 17% over prior year, and that's measured against a difficult comp of 20% for the second quarter 2002 versus the second quarter 2001.

We continue to be very pleased with our progress. 13% of our growth in Americas was driven by increases in unit volume mix.

The remaining 4% growth was derived from price increases.

Our Americas reconstructive growth in the quarter was 20%.

This would imply that in the Americas, during the quarter, we had mid-teens level gains in surgical procedure unit volumes for hips, knees, shoulders and elbows.

Including our 20% Americas reconstructive growth, knees delivered excellent results again, with a 22% increase to prior year.

Most importantly, though, this 22% knee growth should be judged against the incredibly comp of a 26% knee growth in second quarter 2002 versus 2001. 22% growth over a 26% growth.

NextGen, LPS-Flex, MIS Unis, Trabecular Metal tibia components and NextGen LCCK Revision Knees all made substantial contributions to the Americas new performance.

Since there is generally a little mix associated with knees, this would indicate, once more, a surgical procedure unit growth in the quarter for Zimmer Knees, in the Americas, at close to 20%.

Hips in the Americas increased 19%, a Zimmer core stems at 63% of mix, surpassing for the last trailing 12 months cemented stems in unit sales.

In total, we have been growing the Americas Reconstructive Products at an average of 20% or more each quarter for three years now.

Based on the already released public reports of our three major competitors, Biomet, J&J DePew (ph) and Stryker, the market growth in domestic reconstructive products for the quarter is estimated to be about 15%.

It's clear, therefore, that at 20% reconstructive growth, Zimmer's continuing (inaudible) rate of market growth the Americas are gaining by more than 30%.

Trauma products sales only improved by 5%, impacted positively by our new Periarticular Plate offerings and very early IST activity that significantly offset somewhat by solid, competitive IM Nail releases.

Although a much smaller segment, we have work to do here in both IM Nail penetration and new products.

In patient care, OrthoPAT, available only in the Americas, continues rapid acceptance and became a $20 million annual product line, as described in my earlier remarks.

Our overall sales success in the Americas is truly broad-based.

Every U.S. distributorship grew significantly, but almost half of our 26 distributorships either reconstructed businesses by more than double the estimated U.S. market growth.

Importantly, the Americas operating profit margins in the quarter increased by an amazing 410 basis points to a record 52.4% from 48.3% prior year.

This is the real earnings payoff for real market share gains.

In Asia Pacific, revenue for the first quarter was $76 million, indicating a reported increase of 11%, 2% constant currency, and $146 million, 15% reported and 6% constant currency year-to-date.

Asia Pacific had flat price in the second quarter as we anticipated.

Struggling healthcare budget deficits in South Korea and Taiwan have moderated the small positive growth in previous quarters.

While price-reduced growth at 1% as expected, the SARS epidemic did have, as indicated in our press release, an estimated 5% or $3 million growth impact in the quarter for Asia Pacific, and just barely kept the worldwide Zimmer holdings from obtaining a 20% growth in the quarter overall.

Our strong number one market share positions in Taiwan, Singapore and Hong Kong, and to a lesser degree, in China, create a more pronounced impact on Zimmer than perhaps on other competitors.

The addition of these sales would have returned Asia Pacific to our expectations of approximately 16% growth.

Having said this, the impact was not material to our total global business.

The worst of SARS seems to be well over and we would anticipate easily recovering the reduced revenues in the third and fourth quarters.

At the end of the day, second quarter reported revenues for Asia Pacific, sequentially, were still an acceptable 9% increase over the first quarter 2003.

During the second quarter, our Asia Pacific business was led by reconstructive growth of 12%, with knees up 15%, reflecting strong growth in the LPS-Flex Knees, particularly our conidium-hardened femorals.

Trabecular Metal tibia components and the NextGen CR knee.

We expect our new CR-Flex will be particularly successful in the Asia Pacific region.

Hips increased 19%, primarily due to porous stems and Trilogy cups with Longevity Highly Crosslinked Polyethylene.

Trauma sales increased 5%.

We're particularly pleased with Japan's strong knee product growth for the quarter of 18% and trauma finally improving to almost flat the prior year.

Both Australia, New Zealand and China yielded a minimum of double-digit constant currency growth for all Zimmer product segments combined in the second quarter.

Australia continues to show exceptional local currency growth of more than 25% in both the quarter and year-to-date.

Displaying excellent earnings drop-throughs in sales, Asia Pacific operating profits increased by 18% in the quarter while operating margin ratios increased by 30 basis points to 44.5% from 44.2% in 2002.

We are very pleased with our strong P&L management in Asia Pacific and with our reconstructive growth, particularly with knees in Japan.

Europe had yet another exceptional quarter, marked by substantial market share gains across the board.

In the quarter, revenue of $61 million represented a 43% increase over the prior year, an outstanding 22% constant currency growth and a strong sequential increase of 18% versus the first quarter.

We believe almost twice the served market growth was obtained by 13 of our 16 European businesses for all products combined and 11 of our 16 European businesses delivered reconstructive growth in excess of 20% local currency.

On the product front, as you can anticipate, reconstructive implants on a reported basis grew by an astounding 42%, by hip growth at 45 and knee growth at 40%.

Even with solid competitive reconstructive numbers for Europe in the second quarter, it is clear that we are growing at more than double the market, with or without currency.

These gains reflect the continuing acceptance of Longevity Highly Crosslinked Polyethylene, the introduction of our European hip and cup designs, augmenting the ongoing market share gains for the NextGen knee brand and trauma up 18% in the local currency.

Europe's performance has proved to be consistent over time.

If you look at Zimmer Europe over the last several quarters in local currency, every quarter is over 20% growth, and the average is 24%.

If you eliminate price and look only at the volume mix, the average increase in the same quarters is more than 21%.

This is very exciting ongoing sales story.

Although we normally don't disclose specific geographic segment gross profit margins, and we may very well not in the future, Zimmer Europe, for the first time ever, generated a GP for the quarter in excess of 70%.

In addition, we delivered improved European operating profits that increased by 78% to $19.4 million in the quarter and our record operating profit to sales ratio of 31.6%.

This from a business that only five years ago lost money most quarters and more than $100 million in annual sales, a continually exceptional performance by Europe.

I'll try to cover the following hot topics briefly - mix and update on the role of mix changes reflected in Zimmer's global results, summer sales associate ads, an update on our actual additions for 2003 second quarter year-to-date, and the remaining plans for the year.

Pricing our latest really unchanged interpretations and lastly, of course, is Minimally Invasive Efforts, a detailed update on our activities and our developments.

First mix, an update on the role of mix change reflected Zimmer's results.

Mix continues to play a key role in improved sales and profitability.

For 2003, I would remind you that we've expanded our discussion with you by adding Trabecular Metal Penetration as a fourth category and also by combining knees and hips together in both revision and Crosslinked Poly conversion analysis.

First standard Polyethylene conversion to Longevity Highly Crosslinked Polyethylene, first in hips.

The end of 2002, as you may recall at 85% crosslink penetration, 15% standard.

At the end of the second quarter 2003, we are now 89% crosslink and 11% standard.

Prolong, as I mentioned previously on articulating services, we did not measure last year and this year, at the end of the second quarter, is 11% crosslink, 89% standard, a cumulative shift of 4 points to crosslinking hips for the second quarter versus year-end 2002.

Given our ongoing penetration in market share gains in hips, cuffs and liners, it's evident that we continue to have the potential for significant dollar and mixed growth through competitive surgeon conversion to Longevity.

Since Prolong for the knee is only available to cruciate retaining, and Zimmer has a stronger share in posterior stabilize, we have tremendous potential mixed shift dollars still in front of us.

As a reminder, Prolong represents 34% of cruciate retaining articulate surfaces, but it was indicated at only 11% of total articulating surfaces.

Prolong for PF procedures will be available for limited release in late 2003, with a major new product impact in 2004.

Cemented hip conversions to porous hips, end of 2002, 43% cemented, 52% porous, end of second quarter 2003, 41% cemented, 59% porous. (inaudible) shifted two points to porous in units for second quarter 2003 versus year-end.

And we believe the market, in general, now is at approximately 66% or two-thirds porous.

This still leaves us with room to grow, with more than 100 remaining Apollo 4 stems that will be released, the distribution pipeline complete for our epic composite stem, the potential growth in Trabecular Metal stem applications and exclusive use of porous stems and Minimally Evasive Mini and 2-Incision hip surgeries, we have many more opportunities for cemented to porous conversions.

For Zimmer, a slowdown in this mix factor is unlikely due to maxing out.

At a better than 30% growth in porous stems in two consecutive quarters, we've moved only two points in porous cemented mix and remain 6 to 7 points below the market's relative porous mix in total.

This is particularly noteworthy in the second quarter, where countries with strong cemented history, such as the U.K., Canada and Australia, had very robust performances.

Revision as a percent of Zimmer's first hip sales, end of 2002, 9% and the second quarter 2003 11%.

And in knee femorals, we did not measure it last year, as you know, but at the end of the second quarter 2003 we're 9% revision, 91% primary.

In summary, we overachieved our double-digit revision preliminary goal of 10% to combine hips and knees in the second quarter of 2003.

The hip revision progress, from 3% of sales in 1999 to 11% in second quarter 2003, has been excellent, given the size of Zimmer's base in total hip sales.

We continue to have tremendous knee potential at only 9% of sales in both the new rotating hinge and international expansion of our LCCK knee system underway.

Trabecular Metal as a percent of recon sales at the end of 2002 was 1.6%, at the end of second quarter 2003 is 3.1%.

In summary, Trabecular Metal has doubled in second quarter of 2003 from 2002 as a percent of Zimmer's reconstructive sales.

This does not include the fact demand currently is virtually outstripping production.

We clearly believe with good reason this is the next great porous platform.

These results do not include seven new Trabecular Metal related projects, including the moderate trabecular model cup just released.

Our potential to grow this product line with premium pricing and expanded utilization in not only in traditional recon, but also spine and trauma will provide significant mix expansion capability for several years to come.

And second subject, sales associate (inaudible) for 2003, as you may recall from our year-end conference call for 2002 with hired 84s new sales associates, surgical (inaudible) and specialists and entered the 2003 with 9 unfilled openings.

In 2003 we expect to fill those openings in hiring additionally 80-90 representatives for a total of roughly 100 additions.

During the first quarter 2003, we added 20 international and 29 in the Americas for total of 49 sales folks to give us a big jump start on the year.

In the second quarter we added additional 10 international and 21 Americas for quarter total of 31 and year-to-date total of 80.

We are in a nice position to benefit early from the skills and abilities.

Since (inaudible) all our sales people are either straight commission or performance-based Zimmer's exclusive contractors, sales expensed to revenue tend to track in a linear rather than a front-loaded fashion.

Pricing, Zimmer's position of pricing is unchanged since we started in August of 2001.

We have been pleasantly surprised by the 4% global price and 4 to 5% in domestic U.S. market.

Our own theory is been the price in 2003 to 2005 period will stabilize at positive 2 to 3% with most major geographies in positive-price territory and U.S. leading the way at 3% or so.

With few exceptions such as Korea and to a lesser degree, Taiwan, we absolutely see no sign of price for not remaining meaningfully positive.

In turning our business is double budget around little price with the exception of (inaudible) previously contracted major houseable chain agreements.

The primary concern we heard seem to be twofold.

One, the 2004 GB negative and two, will new premium price (inaudible) stands for other premium north-orthopedic affect budgets to the extent orthopedics will be directly impacted As we explained in some detail last quarter, we do not believe this is the case.

Zimmer's use of the concerned 2-3% guidance reflects reasonable belief that households will seek share, will be slightly less profitable, will be little more sensitive to appropriate demand matching and our collective success in recent times of 5% per year in the U.S. will catch the attention of most hospital administrators. (inaudible) plus 5% or minus 5% to a full would have a little bearing on our list price increase and stick rate.

In short for Zimmer our guidance for two years since our spin has in advance incorporated potential concerns.

I would note for us during the second quarter of 2003, prices 2.6% globally and in the middle of what we believe is a sustainable 2 to 3% range already guided to.

Minimum invasive surgery activities, we are very pleased with the progress in the four year old MIS program during the (inaudible) will update you on several different aspects of the MIS program.

First, the 16,000 square feet Zimmer Institute officially opened on schedule at end of the first quarter.

We held a first cadaver base of (inaudible) on April 8th.

We have increased our full-time approved staff to 15 employees.

Year-to-date since January, we have trained 159 surgeons on the Zimmer-2-Incisiona and 46 PAs and nurses.

Since inception, we have trained more than 200 surgeons and their staffs.

In June globally, we trained 40 surgeons, including 10 from Europe.

Before attending cadaver training as an institute, most surgeons prefer to one of our surgeons performing (inaudible) procedures.

The numbers are staggering.

Year-to-date we have accommodated 200 visits.

We currently have total of 320 official and yet for the most part unfilled visit request outstanding composed to 213 MIS hip and 109 MIS knee requests.

In June alone, we entered new request for 45 hip visits and 33 knee visits.

Both American Academy of Orthopedic Surgeons and generally more considerate AOA are taking notice.

AA Cadaver course, at their request, we demonstrated new Zimmer key west (inaudible) of a patient having 105 degrees per average normal flection within two hours of surgery.

Surgeons were impressed.

And the procedure is very flexed and very compelling.

Zimmer Institute, quadtraining classes for total of 50 surgeon are now been planned for QS rollout in fourth quarter of this year.

At annual AOA meeting in Charleston, South Carolina, surgeons from three separate medical centers reported on first 300 MIS 2-Incision on hips.

The procedures achieved 80% of patients are discharged in less than 24 hours, this was a 4.1 day drop in patient stay for these hospitals.

With the introduction of full regiment (inaudible) therapy programs the same day of surgery at the Presby St. Luke series, the average patient was walking with no support in 8 days, instead of six weeks and back to work in 2 weeks instead of the standard 12 weeks.

While we are still tracking activity manually, we can share with you the previously mentioned standard versus fiber metal paper stem in our portfolio for more than five years are expected to increase in sales by remarkable $25 million and we've only just begun.

On the communication side this summer, we will begin in the U.S. 26 cities, Zimmer MIS institution national ad campaign with top 17 markets in the summer and the next nine markets in the fall.

More than 100 doctors will participate in this campaign with professional videos and consumer education package.

This is the level of exposure that will get the word out on Zimmer MIS brand.

Speaking of getting the word out on Zimmer MIS brand, I have long felt real patient quality of life improvement do not move market share, but also surgeons would be recognized financially for their unique contributions.

Offered reimbursement changes in the medicare system is complex and difficult.

Offered reimbursement changes in third-party private insurers have to almost always devote significant patient improvement and material improvement for the overall cost structure.

If you work long enough in this business and long enough as surgeons, you occasionally get the chance to read a paragraph like this. "The potential for dramatic patient benefits with the Zimmer minimally invasive solution MIS 2-Incision hip procedure has been recognized in a recent decision by a major U.S. private insurer.

The insurer has elected to more than double the reimbursement payment to a physician practice whose number surgeons has demonstrated ability to deliver improved patient outcomes.

The decision applies only to Zimmer's new patient patent pending (inaudible) 2-Incision hip technique."

We will not be disclosing specific additional details until a press release that follow in the near future.

On this exciting news, let me turn over to Sam for his comments.

Thanks Ray.

I am also pleased to be able to report another terrific quarter for Zimmer.

I will try to add granularity to Ray's statements while focusing on the few key areas of the profit and loss statement and the balance sheet, cash flow statements for the second quarter.

In the area of foreign exchange, the continued weakening of the U.S. dollar across most currencies compared to prior year contributed 4.7% or $16 million to our sales growth for the quarter.

The yen strengthened by 8% over the second quarter last year while the euro strengthened by 24%.

If the current foreign exchange rates hold for the balance of the year, the affect on sales growth will be $16 million or 2.2% in the second half of the year compared to $31 million or 4.6% during the first half.

We have four hedged contracts in place this year for the yen at average for the year of 126, compared to 115 for 2002.

And for the euro at .95 compared to .87 for 2002.

As a result of the use of these contracts, the weakening U.S. dollar had a modest affect on operating profit growth.

We also have forward contracts in place for 2004 including the Yen at 119, the Euro at 1.05, the Australia dollar at.64 and Canadian dollar at 1.40.

We use simple hedging tools to manage risk from year-over-year and want to take full advantage of locking in the current position of the U.S. dollar as we begin the creation of the operating plan process for 2004.

I am pleased to report we are now debt free as Ray indicated we spin out from former parent we established a goal to be debt free by the end of 2003.

Given our consistent sales performance and focus on relentless managing of our investments and working capital, we accomplished our goal six months ahead of schedule.

At the end of the first quarter we had $77 million of total debt in the balance sheet and $44 million of total net debt of cash.

We now have $39 million of net cash on the balance sheet consisting of $115 million of cash offset by the $76 million of Japanese debt.

To thumb the Centerpulse acquisition, we put in place a new fully committed $1.75 billion credit facility with three financial institutions, including Credit Suisse First Boston, J.P.

Morgan and the Banc of America.

This new multi currency facility which has grip based pricing consists of $400 million 364-day revolver, $800 million three-year revolver and a $550 million five year bank loan.

Based upon our split rating, the 364 day three-year revolver will be priced at Libor plus 87.5 basis points and the five-year term portion will be based at Libor plus 112.5 basis points.

The estimate online interest rates for this facility approximates 4% excluding the amortization of capitalized financing cost.

We estimate the draw down on the facility at the time we close the transaction currently targeted for late September will be little over $1.4 billion with the expected cash flow from the combined company we are targeting to be debt free again and three years after the close of the transaction.

We have also visited both Standard & Poors and Moody's a few weeks ago to present our financing plans for the Centerpulse transaction and are very pleased with the outcomes.

Standard & Poors issued a press release indicating if we are successful in completing the Centerpulse acquisition, with the existing offer, it will likely upgrade our credit rating from BBB minus to BBB flat.

Moody's also issued a press release indicated they were affirming the BAA3 rating in current bank facility and also rating a new bank facility at BAA3.

Zimmer's affected tax rate for the second quarter were in line with the first quarter at 33.5%.

This compared to last year's second quarter tax rate of 34.2% and last year's full year tax rate of 33.7%.

The 20 basis point improvement from full year 2002 is the direct result of establishing a more tax decision, (inaudible) structure in middle of 2002 combined with strong growth from the production from Puerto Rican manufacturing facility.33.5% should continue to be a bit (inaudible) forecasting models for the balance of this year.

Overall our profit to loss results for second quarter continue to demonstrate our commitment to deliver sale of growth in excess of market growth and also to leverage cost of goods sold and expenses to grow at slower rate of sales.

As a result in the second quarter we are able to deliver sales growth of 19%, 14.3% constant currency, gross profit growth of 20.1%, operating profit increases of 30.3%, that would scale down to 27.4% without benefit in the change of accounting for instrumentation year to year and diluted EPS growth of 32.4%.

Due to rounding the change in accounting for instrumentation had no effect on diluted EPS growth rates.

With the expansion of our traditional GAAP margins, we believe at 38.1% our corresponding EBITDA margins are better than any of our direct major competitors.

Turning to the balance sheet, we continue to deliver best in class performance, DSO particularly true in the U.S.

Consolidated DSO for the second quarter was 57 days, equal to the same period last year and two days higher than the first quarter of this year.

The increase in DSO from first quarter is due in part to rapid growth in Europe and lower payment terms and translation effect of the quarter and balance sheet, at weaker U.S. dollar rates than the average rates used to translate second quarter sales.

Continuing to highlight strong our U.S. collection team in the quarter slightly over 31 days sales outstanding.

Days inventory on hand were 257, three days higher than the end of the second quarter of last year and up 10 days from the first quarter of this year.

The increase in days is a direct result of continuing to build inventory to support new product introduction.

The results for this quarter fall right into our target average between 250 to 260 days of inventory.

Accounts payable days increased to 62 days, up two days from 60 days at the end of last quarter.

Operating cash flow for the quarter was $122 million.

Capital expenditures for the quarter were $32 million consisting of $25 million for instruments and $7 million for all other fixed asset additions.

Free cash flow which is operating cash flow less capital expenditures was $90 million for the quarter. $14.8 million of investments and other assets in the cash flow statement represents the acquisition of (inaudible) external fixation business, as Ray mentioned earlier.

This is the first acquisition since the spin-off from the former parent and integrates this product line which was introduced in the distributor product line in the first half of 2002.

As we have seen in all previous quarters our balance sheet continues to strengthen.

We are now debt free as we previously mentioned and our equity position has grown to $648 million.

To date we incurred $22 million of cost to support our initiative to acquire Centerpulse.

Primarily an external professional fees such as attorneys, tax advisors, due diligence professionals, legal filings, underwriting fees, printing and mailing costs. $4.7 million of these costs was paid in second quarter and remaining $17.3 million are expected to be paid out in the third quarter.

More modest level of incremental cost will be incurred in third quarter and the process is expected to be completed towards the end of the third quarter.

Our expectation is that we will be successful in completing the acquisition.

As a result, $1.5 million of these costs were reported as expense in second quarter and remaining $20.5 million have been capitalized for the balance sheet in accordance with U.S.

GAAP accounting rules.

In the event we are unsuccessful in our attempt to acquire Centerpulse, any of these costs incurred that are not previously expensed will be expensed and disclosed as such as a one-time item in whichever quarter it becomes apparent we will not win the deal.

As a relation guidance in the press release last night, we provided an update to 2003 guidance for both sales and link for share.

We expect sales for the full year to increase approximately 18% over 2002 and sales for the full year of approximately $1 billion 620 million .

As a reminder the cost get increasingly more difficult throughout the balance of the year and the favorable effect on foreign currency on a year growth rates will diminish due to the weakening of the U.S. dollar throughout all of last year.

Our guidance incorporates expected effects of volume growth, mix and pricing and assumes foreign exchange rates remain at current levels for the balance of the year.

We expect we will continue to grow revenue at minimum of 1 to 2% above anticipated reported market growth and consequently, expect third quarter sales growth of approximately 16% implying sales of approximately $390 million for the quarter and fourth quarter sales growth of approximately 15% implying sales of approximately $425 million for the quarter.

We also expect diluted earning per share to increase approximately 29% for the full year 2003 over 2002 applying diluted EPS of approximately $1.69 for the year.

In light of our quarterly sales guidance, we expect diluted EPS of 40 cents and 44 cents in the third and fourth quarters respectively.

EPS guidance incorporates the effect of using asset-based model in 2003 for instrument accounting and expense-based model in 2002.

Our EPS guidance also incorporates the fact we will doubling our global investment in Zimmer's minimal invasive solutions this year over last year, more than $20 million in 2003, with materially greater MIS spending levels occurring in second half of this year than in the first half.

Our quarterly earnings per share guidance also excludes the future expensing of any cost incurred related to potential acquisition of Centerpulse.

Also excludes cumulative effected adjustment in first quarter related to change in accounting for instruments.

Additionally, capital expenditures for the year are still targeted to be $35 to$40 million for traditional property, plant and equipment, plus additional $80 to $85 million for instruments.

Also, $30 to $40 million we consider $25 million as maintenance capital and additional $10 to $15 million as capital required to continue to find the unit volume sales increases.

Finally, as I mentioned earlier, our tax rate of 33.5% for the first half should be a good rate to use in the model for the balance of the year.

Now, I will turn the call back to Ray for few final comments.

Thanks.

No doubt the second quarter for Zimmer was proof we live in interesting times.

It was a quarter all of us at the company are pleased with.

Only two weeks from now we will have been a public company for two years.

It is hard to believe, but a good time to reflect.

Sales have compounded since our public inception of more than 16% with worldwide reconstructed implants at a compound growth of 21%.

Our sales growth directly correlates to the fact we continue to invest in R&D at the top of the class on or near 6% of sales.

In the first two years we have built with the world's highest rated sales force, more than $500 million in new products that were not there three years ago.

These products are creation of 350 R&D people operating at any point in time more than 30 pipeline projects simultaneously.

It is a far cry from Zimmer's new products in the mid '90s which totaled more than $50 million per year.

It's clear that minimal invasive surgery is leaning toward fame and fortune than (inaudible).

Our careful attention to manufacturing cost and mix combined with real stinginess in G&A allowed us to produce the best margin metrics in the industry. 76% gross margin, 33% operating margin, 22% net.

Since August 7, 2001, net earnings have grown more than double the sales rate.

At 38% EBITDA must be close to if not the highest in all of the medical devices not just (inaudible).

ZMH in the New York Stock Exchange has been rewarded with a 60% plus price share for increase, a market cap approaching $9 billion and more than 20 self styled analysts to watch over us.

Same sales industry-leading margins and earnings have been combined with gold standard in cap management to create two-year operating cash flow of more than half a billion dollars.

Better so, we are net debt positive with more than $100 million in the bank and some $650 million in shareholder equity where there is once none.

We have been fortunate enough to execute result virtually the same management team that delivered the turnaround and the spin off.

In the end we built a solid and sustainable base that allows us to confidently launch across border $3 billion plus acquisition offer to create the number one orthopedic company in the world.

In fact, we would like to do this deal, we don't have to do it.

Now, so much for reflection.

My favorite men in white, have told me your most important quarter is the one you are in, but not for long, it is always the next one.

Good advice.

The second quarter's $411 million in sales and a very strong 45 cents in diluted EPS are now history.

As Sam indicated, we adjusted our guidance for sales to $1.62 billion for the year an increase of 18% and including the accounting principal change for instruments increased diluted EPS to approximately $1.69.

Both guidance indicators point to a very successful 2003.

Thank you for your time.

We look forward to questions.

Leslie, back over to you for Q and A.

Thank you.

At this time, if you would like to ask a question, press* and the 1 on your telephone keypad.

Your next question comes from Bruce Jacobs with Deutsche Bank Securities.

Thanks so much for taking my question.

Just first one on the quarter.

Sam, I don't know if you mentioned this, can you quantify the impact of the instrument accounting change was in terms of EPS in the quarter if you compare to last year's number?

As I mentioned because of the rounding it had no effect on EPS at all.

.

Sorry I missed that.

If I could ask one on the Centerpulse acquisition, can either of you comment on how your feelings have changed since you have had a chance to do the hundreds of dollars of due diligence?

Do you feel as you did going in or have you felt better about the proposed combination as you've done more work?

I think we feel the same.

I don't know that there's any up or down really in the change in feeling.

As you know, Bruce, having dealt with us a lot, we're almost boring on this kind of stuff, frankly.

I mean, we're very disciplined, we do the analysis, we analyzed it well ahead of time.

So I don't think anything's changed.

I think the only thing that's there right now is the anticipation and the question mark in our mind of what Smith & Nephew will do.

And I think that's what we're all waiting for.

So I don't think we've changed there very much.

I would also say, Bruce, that we were very pleased with the reception that we got from the entire Centerpulse team.

They were very open with us, shared information freely, and that allowed us, frankly, to get through a very thorough process in a very short period of time.

Bruce Jacobs OK, and just the last question on that topic.

Have there been any kind of pre-merger integration activities that have been undertaken.

I assume it's too early, but I'm just wondering if you had done anything on that side of the equation.

We've targeted it at seeing - the way we do these things is, as I mentioned, there is sort of 50-some people from our organization plus outside advisors, obviously.

What we try to do is then construct an integration team that's approximately a half-step size from our side of thing, a little less than that.

We presume almost an equal number from the other party, Centerpulse in this case.

And we would then go to work on a full-time integration plan.

Those people would be full time and would drop off the list at any given point as their tasks and functions were completed.

So we began the structural design of writing an integration plan.

We're not going to write the full-blown plan, which would probably be to give you some sense of it, a couple hundred pages long.

We're not going to write the full-blown plan because people are busy focused on regular business at this point.

So we're only drafting the structure of it.

Bruce Jacobs Great.

Guys, nice quarter.

Thanks for your time.

You're welcome.

Your next question comes from William Plovanic (ph) with First Albany.

Thank you.

Fantastic quarter.

As we look at the numbers here and the guidance, you know, it really looks like considering the operating margins you put up this quarter, by just running the numbers through the model, I am having to pull back to get to your guidance.

Is there going to be a reason that gross margins would pull back or that we would see the SG&A spend increase going forward?

I think the Sam commented on, first of all, the guidance that was out there, we basically maintained.

It is not for the year we added the gain for the second quarter.

We've basically gone with the Street, which we thought was appropriate for the third and fourth quarter.

There is nothing unique going on we haven't already described.

We are obviously going to lose foreign currency tailwind.

From the earnings point of view, we are going to invest more heavily, no question.

Of the $20 million, a lot is going to be in that second part of the year.

So, I think all we are trying to communicate to you, it is a really great year.

We want to invest in the second quarter.

MIS is starting to take off, as you can tell from the commentary I just gave.

We don't want people getting out in front of us without recognizing the fact we need to make the investment in MIS.

It is not a caution on the market on us, it is communication we want to make investments for our own future.

With the differentials and hedge contracts from the four quarters of last year and this year, we continue to have a drag as a result of worse hedged contracts this year.

If we get that back next year because of the lock-in, the hedged rates I mentioned earlier.

We had a strong quarter with mix, as you know.

And all those factors together led to that guidance.

Okay.

And then, on the ceramic on ceramic, I know you did address that a bit, the competitive landscape out there in the marketings.

I was just wondering has -- obviously Stryker had some supply issues so has right medical.

I was wondering what you have seen relative to have they scaled back on their programs because of that?

I don't think we have seen anything in the scaling back particularly.

I think they've had good early success.

We haven't seen a huge impact, to be honest with you.

Generally in the market they look like they have done well with the 40 year olds and younger people.

I think you know, as best as we can tell from here, it is a good looking product.

We compliment them for that.

It is as they do and we have good products.

It will be a good product and have its niche and reasonably well.

As you can tell from our results, we haven't seen it hit us that heavily.

We are bound to see it in some of the younger folks.

That is probably common sense.

Thanks a lot.

Your next question comes from Scott Davidson with US Bancorp Piper Jaffray.

Hi, good morning and nice quarter.

First question is on the MIS.

Ray, was wondering if you could give us a few more numbers and talk in terms of the number of instrumentations that you out in the field?

What are you seeing in terms of utilization rates?

I recognize it is early in the process.

Any update to the number of docks you are hoping to train in the year?

I have update tally on the number of sets.

That one I would have to look up for you.

I am happy to answer that separately.

I would be guessing at this point.

They are going out all the time, obviously.

In terms of surgeons trained, as I commented, 159.

We plan to train -- we can effectively train at the Institute, effectively train about 8 or so surgeons and their staff weekly.

Don't train every single week because we have to train sales reps and do development there.

We would -- we are up to four major deals now.

I feel like I promise and never deliver it.

Because of Centerpulse and our lawyers and all our staff tied up, we have not completed this transaction agreement with the big partners particularly in the U.S., so we're still using offsite support training (inaudible) instead of our partners.

We intend to get those signed up.

There are legal meetings today with one in fact.

We want to get it done to expand the training format there.

Our big issue at this point, as you can tell, we have 300 requests in.

Knee is coming up quickly on top of that.

We have three practors and three preceptors out to support people in the few first surgery.

Because we don't want to be uncomfortable.

It is a massive effort and it is why I ask Sam to emphasize -- it is not so much a guidance issue, although I think it is helpful.

We have millions of dollars going out in the second half to set ourselves up for '04 and '05.

Great.

Thank you.

On the reimbursement front relative to MIS, you referenced positive data point of that one pair, who will reimburse that?

Is that part of a broad program of detailing these pairs?

Can you flush out what is going on in terms of the effort there?

Good question.

We have a role here.

We have a group of people call reimbursement and health strategy.

They are part of the group that is managing, if you remember the work we are doing at multiple hospitals and the cost structuring of MIS and the impact it may have on reimbursement.

I hope I didn't underplay that paragraph when I read it.

That is the most exciting thing I have heard in a long time, not just because it is for Zimmer.

It is unique to see a major insurer come back and say we will pay you more than twice as much for doing this because it is that important to patients and has that kind of cost system affects.

We are happy about that.

We will proceed to work with that major insurer to go beyond the geographic coverage that is currently implied in their letter of approval.

We will move through the 200 trained surgeons because many of them have different contracts with different insurers.

We want to get this out there and have it very focused and exclusively focused on the 2-Incision hip and then move on to knee.

It is a big process that is very organized and very time consuming and costly.

Great.

Thanks very much.

Your next question comes from Rick Weiss with Bear Stearns.

Good morning, guys, this is Milton.

I know it sounds like Rick.

Ray, a couple of questions.

First, you eluded to the man matching in hospitals.

I think we have seen more of that than there has been in the last five years as surgeons become more cooperative with hospitals.

What sort of effect do you anticipate on mix shift as surgeons are becoming more diligent and you know, demand matching to patients with premium-priced products?

We are not seeing a lot of it.

The point that I was making, Milton, was that in our -- the most conservative of the people on the pricing side of things.

What I was saying we are speculating in the four or five examples I gave you, hospital administrators, I don't think hospitals will be quite as profitable.

When I ran through the list, that is a speculative list of things we believe will happen over the next two to three years as part of the strategic planning.

I am not indicating I am seeing those now.

We are not seeing them now.

It is speculative.

It allows us to plan our guidance on price where we want it to be.

Okay.

Second question is on pressed components for knees.

You know, right now, like you mentioned, it is primarily volume.

Could we see a greater mix shift component come in as the market moves toward components and do you anticipate something to the magnitude of what happens in the hips?

I think we do.

I think if we can certainly deliver Trabecular Metal Tibble Trays as an example.

It is a good ones.

If we can deliver the product that has characteristics surgeons have always wanted and have not been able to get, if we can deliver, there will be a significant movement to the porous trays.

The second issue there is the fact you can't lose sight of it, the monoblock issue for the Trabecular Metal tray.

There is a lot of issues in the marketplace right now with Backside Wear creating micromotion and osteolicensis.

We think this solution may be the best.

If you combine the issues with surgeon preference, there is a good chance we will get a strong shift to this.

The down classification subject material only adds to that feeling.

Okay.

Last question is can you give us the approximate price premium that the moniba (ph) carries over the other trays?

I could, but I am not going to.

We don't share those.

Thanks for nothing, Ray.

You are welcome.

Your next question comes from Katherine Martinelli.

Thank you.

Good morning.

One question, Ray, on the MIS front.

Maybe it is too early given where you guys are in launching it.

Have you had an opportunity to get a sense of the use rates or the surgeon use of the MIS procedures have been post-training?

If it is too early, do you have a sense when you might start tracking that?

Let me speculate and then I will try to answer it properly.

The answer to the second part is next year.

We are still trying to figure out the best -- we know the ways of doing it, we are trying to figure out the simplest and easier to ensure that we can validate at no cost and effort to anybody that truly was in MIS surgery as opposed to having sales reps do manual reports based upon surgical lists.

Our ability to track and validate is important and we are looking at several opportunities.

The answer is going to be 2004 because we don't think we will be able to institute it.

We may test before then.

The answer to the first part is it is all over the place.

We have surgeons who are trained and are nervous and uncomfortable early and are looking for the perfect patient and wait quite a while and do a few.

I believe this is a opportunity for a third of patients.

I don't argue it is a niche of 5% and I am hard pressed to believe surgeons will do it on 80% of people over the next few years and as long as we don't have low cost guidance to support many of these folks.

It is all we've got at this stage.

That's very helpful.

In terms of MIS investment in back half of the year, I think you mentioned the bulk will hit 2, does that get allocated to the SG&A or the portion of hit R&D line?

Where do you stand with IM mail and is that the primary issue in terms of the other companies getting good growth in that segment?

Yeah, couple of things going on.

Our nail Pre-ITST, we went back and did redesign issues primarily with -- not (inaudible) to nail, itself, but with the targeting instrumentation and various other things.

That in conjunction with all the activities and things in Japan cost us over time last year to lose market share.

That was happening at the same time that a couple of people when coming out with particularly Stryker's product was a good nail.

We crossmatched against the nail share and are back with ITST and looking to add advanced concept and looking at new nail marketing programs.

At some point we will have to look at having a titanium offering.

We have strictly stainless steel, which is effective in some countries, but in other places, other surgeons will not get you in the door.

We have not driven that project dramatically forward because Centerpulse has a titanium nail in their Series brand of systems.

Part is dependent on what happens with Centerpulse.

If we lose, we will build a titanium line.

If we win, it is far less likely we will do that and would kill any stainless steel project development they've got.

Does stainless steel you have or titanium one you would get if Centerpulse goes through, does that address a broad range of trauma fractures in terms of being able to use it (inaudible) instrumentation for tibial and femoral fractures?

That is the desired effect in developing it as a system that way.

That is one of the strengths of the Stryker system, in my opinion.

To compete in that market that is obviously something we would have to have on both stainless and titanium.

Just for my own clarification, if the Centerpulse goes through, would you get a product line good to go in terms of having the titanium nail you need or would you do R&D work to get to the platform level to compete more effectively?

My understanding is and I am not the trauma head.

It is good to go, but the instrumentation set up clearly would not be a single set of instrumentation for obvious reasons.

I believe the product line they've got is good to go from a competitive point of view.

That's helpful.

Thank you.

Your next question comes from Mark Landy with Leerink Swann.

Good morning gentlemen.

Couple of quick questions.

Could you comment on the ceramic uptake?

Would it be fair to characterize the two companies upgrading their own products rather than taking share?

I think that is probably the case.

We've seen a little of it and I expect competitors have, as well.

They clearly want to get out and focus on some of the key surgeons.

I'm not clear at this point as to whether their supply issues are deriving their desired to take care of their own surgeons first, which is logical to do when you market a new product line.

Upgrade your own people first, obviously, more easily.

Or is that strategy and the supply issue is not a factor.

I am not privy to their information to know that.

We have seen them be active and seen some effect on the young patients.

But, again, as you can tell from our results, it is not been a huge impact on us at this point.

Again, your results really don't reflect this, but from a lot of the hospital comments this quarter, it appears procedure volumes were down.

They highlighted orthopedics as one of the areas.

Did you see any decline in the procedure rates and is there pinned up demand?

Your results don't reflect that?

We don't share with you publicly, but we have a sophisticated IT system here.

We are able to get at actual unit volumes by SKU, et cetera, without boring you with the details.

When I look at day rate gross, I get rid of price and mix and foreign exchange and get the U.S. day rate gross.

I will be honest, we are not seeing -- I don't know about the market.

I can only go by public numbers.

We at Zimmer are not seeing units of surgical procedure in reconstructive area decline on day rate basis.

We are not seeing it.

Could you tell us what the procedure volume is in Europe?

No.

I can only try.

Sam, now that you are cash positive, could you share with us your thoughts on interest income or your assumptions for the second half of '03 and for '04?

First of all, as you know, absent acquisitions, we will continue to accumulate cash.

We do have modest interest expense to incur because we keep jat pan debt outstanding.

We do a little bit of factoring in Italy, there is expense with that.

On the whole, no matter what we invest in it is not a lot of interest income.

I would suggest that your expectations be modest.

The point being on absent the acquisition should we look at you being interest expense mode or kind of some form of interest income mode on that item?

I think I answered the question, the expectation should be modest on that line net-net.

Thanks, guys.

Your next question comes from Lynn Pieper with Thomas Weisel Partners.

: Good quarter.

Just to follow up on questions on the MIS area and I apologize if you have answered these.

What is the goal of your mix going into 2004 of MIS procedures?

Don't have a goal yet, we have not done 2004 plans.

I think what we're going to try to do is give guidance in the fourth quarter.

As we look at our plans, we try to give guidance on what they can anticipate from us in mix.

The other thing we are looking at is with knee coming into play at the end of this year and the fully, not the sort of mini-knees out there now competitively, a full-blown quad Sperry knee, we think we will get that relief this year, which means it will start to impact in '04 and not forecast that at this point.

So, I am going to back off at this point and say we will promise guidance later in the year.

Okay.

Then, I guess following on that, can you talk a bit about either ASP difference or gross margin difference on minimally invasive versus standard premium sets?

At this point, there is no real difference.

It depends on what hospital and surgeon it is and what relationship we have with them.

We have viewed at this point and I will give you a quick second question.

We have viewed MIS products as being the same margin, the same sale, the same ASP.

The difference is twofold.

Number one, in the case of hips, they are virtually, they are all porous.

You are automatically getting big uptick in GP dollars, the fact you are putting units in.

That is helping us on general movement to porous, as I commented.

Secondly, down the road we are not convinced orthopedics will stay in the same model it is in.

You give somebody instruments and sell them implants and you pick up your instruments and leave.

One of the elements down the road in surgical units on same-day is whether you have a transaction fee for everything.

You come in with everything and leave with everything.

It is unit transaction.

We are looking at several models at these 10 hospitals.

We are looking at other models that may change frankly how the game is played a little bit.

Okay.

One more.

Sounds like your training is going well.

Of the surgeons trained so far, are you seeing a trend most of them already have navigation equipment installed or is that an inhibitor?

It is not inhibitor.

The vast majority have easy access to fluoroscopy.

You get into more advanced imaging, it is the competition for it within the hospital between nero, spinal and perhaps now more orthopedic.

It is more of intra-hospital management of time issue than it tends to be technical issue.

Great.

Thanks a lot.

Your next question comes from Robert Hopkins with Lehman Brothers.

First on Porous coated. .I think you estimated 66% of hip sales in the U.S. are now porous coated.

Could you give us your opinion on where you think that can go ultimately and then where you think Zimmer's mix can ultimately go in hips?

Well, I think the answer to the second question is probably the same as the first.

At some point we will catch up to the market.

Zimmer is a company if you go back, did not have a big porous mix.

We have caught that up now with particularly Apollo project being finished.

In theory, it ought to be able to go from 78 to 80% because that is where it was in the late 80s before we got into managed care and potential Hillary Clinton healthcare legislation.

And those kind of things.

It ought to go back to that to the degree it has been there before.

Whether hospitals will be able to withstand pricing differentials of it going to that level, you know, I think is a tougher question to answer.

I will guess 75% and I'm going to guess Zimmer will continue to gap or have a gap to our fellow competitors of 5 or 6% that we will catch up.

Obviously we are filling in the product line gaps we have had.

Quick question on spine.

If successful in completing the Centerpulse transaction, do you feel you are going to need to augment the spine franchise to be competitive or is their platform enough to be competitive?

Enough to be competitive is a platform, I think the conversations we have had with the spine tech folks and our analysis here probably says we are going to want to do some small bolt-on-type acquisitions or licensing agreements over the next couple of years.

We would want to expand the sales force.

We are fundamental believers that biologics as demonstrated with Medtronic, will be important part of spine.

I think the answer is it is a good platform, we like what we've seen.

I believe we will augment with additional product efforts.

Last question and basic orthopedic question.

You guys been obviously consistently taking unit share despite what we all know as the close relationship between sales people and in particular companies.

Could you just give us update on is that share gain mostly coming from converting doctors that have been practicing for a while with your product pipeline or is that more a function of just being more aggressive with younger residents coming up.

Just update that dynamic and how you are able to continue to grow at this rate.

Yeah, this is going to sound like I am agreeing on both points.

It is basically the truth.

If you look at -- it is all -- not all, largely driven by new products.

It is a commitment we made when we started the turnaround. $50 million a year in new products.

We have done $500 million in new product sales over the last two years.

It is a clearly new product-driven phenomena.

We are attracting surgeons of all ages, but experienced surgeons I think because of our pipeline offerings, strength of our sales force.

In many cases we are not the number one person, we encourage sales people to make sure you are number two.

If you are not four, you have no chance.

You have to be in the spot next, ready to go.

It is new products and training of the sales people.

The years of experience in the account.

They average 12 years of selling experience with Zimmer.

I think that is a big part of it.

The other part is when we started the turnaround, we noticed our position in academic institutions and our position as percentage of sales to total sales have dropped dramatically from Zimmer's long history of really being a educated and participated in those accounts.

We set target by account by percentage of growth to grow that and continue to monitor it now.

We have been driving the academic institutions and residents while marketing a dramatic growth in new products to surgeons of more experience level.

Great.

Thanks for your time.

Your next question comes from Ben Andrew with William Blair.

Good morning.

Just a couple quick questions.

You mentioned earlier on the man hours and time spent on this and how you still avoided getting distracted and having problems in the quarter, do you get concerned about that if this process drags on, what is being short changed within the organization?

To be honest, I don't, people have taken a disciplined approach around here and we have a lot of depth in this company.

So, when we move somebody out, however important they are, we've really built this organization to have a lot of back-ups and lot of depth and people capable of being promoted and moving up.

I don't have real concerns about that.

I think the risk with any prolonged process, the risk is not so much to us, it tends to be more to the targets, in this case Centerpulse because they valid a tendency to face uncertainty and all the things you don't like to see as part of the process.

No, I have absolutely no, I couldn't be more happy with the way people have handled the process around here and that is why I complimented them at the beginning of my comments.

I would have concerns over time for Centerpulse, yes.

Have you observed anything like that so far?

Not that I am particularly aware of.

We are not close enough on a day-to-day basis.

Nothing in particular.

Ben, another perspective I have.

This is really a very energizing activity for this company and the people are really psyched for it.

They are willing to step up and work harder and not miss anything because of it and delighted to be a part of such an incredibly strategic acquisition.

You mentioned a few times during the call step-up in MIS spending in second half.

Could you quantify that for us?

You talked about numbers in the past you would spend, but it sounds like you will step up significantly.

We were ramping up our core expenditures every quarter for the last 10 quarters and that will continue.

We don't quantify it publicly, but imagine any new program being ramped up and it is not a temporary, but permanent ramp up and will continue to happen throughout next year.

On the spine side, couple difficult questions that.

What are you doing internally to prepare for the event something does not go with Centerpulse, do you have the ability to get a partial pipeline or product line out there or is that in the plan?

It is, we are doing a couple of things with MIS spine work and what we call transformational technology.

We also shouldn't forget that with Implex and our potential with them, Implex has interesting line of A-lifts and cervicals and so on that are Trabecular Metal oriented.

Our relationship with them is important.

We have a line-up of people in some case that is we have not completely eliminated our conversations with.

As you know and we said many times, we will put together a spinal business through most acquisitions if we are not successful with Centerpulse.

Lastly, we are doubling and in the course of doubling the size of Puerto Rico operations that would be capable of producing a license line, if we license the drawings and brand and technology and drop it into the Puerto Rico operation, they would be capable of producing the fundamental product line, not cages or that sort of thing, but basic.

All those things are multiple directions underway with the primary focus at this point on Centerpulse.

Great.

Thanks.

Your next question comes from Robert Faulkner with Prudential Securities.

Thank you, and great quarter as many others have said already.

Thanks, Rob.

Two conceptual questions - one is you have this MIS training being rolled out where you're really changing the way many doctors are thinking about - and patients thinking about surgery.

What - how would you compare the role that that is playing in helping your share gains and attracting doctors versus the robust new product pipeline?

And then secondly if you could - if you could comment on what you've learned about the MIS program in the last six months as you've started to roll it out.

So, what has changed for you?

OK, on the first one, I think they're kind of combined.

There's a - there's absolutely no question that we're getting entry into institutions and into individual discussions and opportunities with surgeons that we have not had the opportunity to do in the past.

We are getting phone calls from people that think we are - excuse me - are shocking to me because these are people I would not imagine would have called us and said, "Could you meet with us and sit down and talk?"

So, there's no question it has a direct impact.

What happens is when you get in there, they may or may not agree with everything we're doing in MIS.

They may find they personally are not comfortable or they - or they want a younger associate to look at or something along those lines.

But it gives you the chance, Rob, to show the pipeline and show all the things we're doing at Zimmer.

Sometimes we get the chance to have them out here, show them the plant, show them R&D, and it gives us the chance - and in many cases, they're shocked because what they knew of Zimmer might have been five years ago or seven years ago.

They may not have talked to us much in the last few years.

So, it's very important that MIS is a - is a legitimate tremendous marketing technology we think patient benefit and share gainer, but it also gets us into, you know, to show that - the pipeline.

In terms of what we've learned new, I think we're becoming very fascinated with the potential.

We've always believed that we have the chance here to make systemic change not just in, you know, as we've said all the way along, this isn't about a small incision.

I mean that's a - that's a relatively minor part of this.

We're learning that the potential ability we have as the frontrunner to not only take share, but to make a change in how surgery is structured, how people's lives are structured, the cost of this economically.

I think we're getting really pumped up about the idea that there's just so much more to this than just the obvious, you know, sell more implants and make more share.

There's an opportunity here to gain share because of systemic change.

And I - and I think that's starting to come to the forefront much more than it has in the past.

Are you seeing more activity from your competitors at this point and can you characterize that how you see it from your perspective?

We are, and I think it certainly varies by competitor.

But I think in general, our competitors are recognizing that this - if they don't believe it's for real, I'm sure they believe they sort of have to be there with something.

And I can't tell you what they really believe about it because obviously it's not a discussion I have with them.

We are seeing, though, stuff that we were doing four and five years ago, you know, sort of a mini - it's not - it's not patient changing - game changing for the most of it.

Most of it is small incision, a few instruments - it's not producing the kind of patient-outcome results that I can - I can see that we're talking about.

So, sure, they're all there.

Are they doing meaningful changes?

Are they where we are?

I don't believe that and have seen nothing that would lead me to believe that.

Great.

Great job.

Thanks.

Thank you.

Your next question comes from Michael Lachman with ThinkEquity Partners.

Good morning.

At this point, just about everything has been answered, but if I could ask you to maybe give (inaudible) a little bit more color over (inaudible) kind of you don't break out volume versus mix.

You talk about those together.

But looking back over the last several quarters and then - and then looking forward over the next few quarters, could you characterize the mix piece of that as a growing piece or a declining piece or relatively stable piece of that volume mix combination?

I'll answer in the market sense, Michael.

I think - my own belief is that the market going forward is going to be a market - let's (inaudible) the U.S. will get better data and it's easier to validate.

My own belief if we take recon in the U.S., which is obviously a huge market, I think we're going to see 8% to 9% unit - just the market, now - not Zimmer - 8% to 9% unit procedures.

And I'm guessing mix is going to continue to be in a market sense about three.

I think that's what it is now for the market.

I think you have people that are higher and lower than that.

But I think it's going to be a nine and three combination for a 12% base market going forward U.S. recon.

And then you can add to that whatever you believe in - there's obviously no foreign exchange - you add to that whatever you believe in price.

If you take our 2% to 3%, take 8% to 9% on units, and about three on mix, you know, that gives you a pretty good look at what - at least what I think the U.S. recon market is going to be going forward.

So, if you're not growing - you know, pick a number on a reported basis - I don't know, 14% or whatever number you want to pick that adds the ranges off of that in U.S. recon - you're probably not staying with the market, I think.

And when you talk about the - I think you provided numbers in the about 13% overall volume mix in the Americas - about 4% price - and again, I guess that's an overall Americas number if you look just at the recon piece.

Yes?

Would that still be pretty consistent with those numbers?

Are you talking about the price portion of it, you mean?

Right.

Price in - let me think - price in recon is within a few tenths of a point of - yes, there's not - there's not a lot of difference there.

That's a good assumption.

Great.

All right, thank you.

OK.

We have time for one more question.

Your final question comes from Mike Weinstein with J.P. Morgan.

Wow, I can't believe we're still on this call.

Neither can we.

In the midst of, you know, how many companies are reporting earnings.

Well, first off, obviously a good quarter.

Thank you.

I just want to go back and make sure I understood a few items that you talked about on the call.

Sure.

First, Sam, just with respect to the quarter and the margin improvement, you said you might have had small benefit from currency, but the implication that - was that it wasn't much.

Is there any to quantify what it was below the top line?

Yes, if it was significant, we would quantify it, Michael, but it's not.

So, no, we have - we have not made that public.

OK, does (inaudible) ...

As you - as you know, also, in past quarters it's been virtually no effect at all.

weinstein.

Right, right.

Part of my question is as we look at the back half of the year and some of your contracts roll off, some of the other companies in the space as their contracts are playing through are going to start to get more of a currency benefit on a bottom line as we look at the back half of the year.

Yes, our contracts roll off at - our contracts roll off, like, one quarter at a time and get replaced with new ones.

So, we have no end to our contracts.

OK, that's helpful.

You know, if - let's first take the assumption that you guys end up not buying Centerpulse.

You find the price to be too expensive.

And you move forward, you know, doing what you're doing now, which obviously very - is very strong.

Do you - when you gave your guidance for the back half of the year - I know you guys like to be conservative and beat numbers, but you didn't extrapolate the margins that you showed in the second quarter in part because of your spending plans around MIS.

Is - if we look out to the second quarter of 2003 - sorry, second quarter 2004, can you improve upon the margins that you showed here?

I mean, you know, (inaudible) reconstructive company doing better than 76% gross margins, you know, 32.8% operating margins.

It's tough to imagine that margins are going to get that much better.

How much before MIS becomes meaningful would still be on the table relative to that type of profile we saw in the second quarter?

Depends on - it's - you know, "In theory, can they grow?"

Sure. "In theory, can they come down a bit?"

Yes.

As you know, Mike, from - you've dealt with us for - since the beginning - that's a long time.

I'm less enthusiastic about worrying about tenths of points of margin.

I mean we're in the cash business, and I don't get as excited analytically about that unless it's a precursor - some kind of indicator of a problem.

So for me to come on a telephone call and say, "You know, oh my god, our margins have gone from 76 to 75.8.

The world is ending."

I don't - I don't live in that world because I don't think it works that way.

The real answer is the things that are in our margin are obviously standard cost, production, automation - all the things we do in the plant to make it better.

We continue to drive that and drive our folks to do standard cost reductions, improved productivity, bring automation.

We're doing it every day as we're - as we're speaking to you.

Our mix is a huge factor in the business, both the product mix and geographic mix on the - on the product side.

You sell more knees, you're going to make more money generally speaking.

Spine, we don't even have yet and it's the highest margin of all.

Typically in the industry, we've in.

It was usually the case, although I've hard pressed to support it this quarter, that if you have a lot more European business, generally speaking you're margins go down because as you know, the margins over there are smaller, although with our business over 70% this month, it's now tougher to support that.

But generally speaking, if you grow Europe, it goes down.

We have - we hedged contract expression in there.

We have royalties in there.

A lot of those things are forecastable.

So it really comes down to, "Do we run the plants really, really well and do we get the mix we want?"

You know, can you - can you grow from where we're at?

Yes.

Can you grow - if we bring spine in, absolutely.

As long as you don't get hit by the offsetting factors too heavily.

So, you know, if you dramatically grow your Europe business, your margins are going to come down a bit.

But, you know, long answer to a short question - I don't want to sound glib and say, "I don't care," because I don't mean it quite that way, but I'll take all the Europe growth you can give me at 20% or 30% a quarter and I'll justify our decline in margins based upon the dramatic increase in cash flow and earnings.

Sure.

The 70% gain in European profits this quarter - is that prior to including the hedging contracts?

That's not a gain, although coincidentally their gain in operating profit was 78%.

What I was - what I was quoting, which we generally don't give people, and may - as I said, may not in the future was we had a 70% GP - gross profit margin in Europe ...

Right.

... for our business.

That's unheard of in orthopaedics in Europe.

But your profits were up more than 70%?

They were up 78.

Right.

So, my question was, "Would you - do you (inaudible) that 78% growth number - is that prior to the hedging contracts? (inaudible)

That does incorporate the (inaudible)?

Wow, OK.

Yes.

That's the point I was making.

I'm glad you - I maybe should have included that in the presentation, so that's a good point to make anyway.

OK, and then, if I can just switch over to Centerpulse, you know, you're - you made the comment that you're still confident that you're going to end up being victorious, if that's the appropriate word here, in winning Centerpulse at the end of the day.

I don't know what conference call you're on, Mike, but I certainly, nor did Sam say (inaudible)

Well, I used the word "victorious."

No, we're not - we're not - this is - this is all dependent upon what (inaudible) we're not - we're not confident - what I - what I said was in my presentation is we've developed enough confidence around this company with the group we have here that we're confident that we can properly execute a $3 billion cross-border transaction.

But I - we're not - it's 50/50 until we understand what (inaudible).

Yes, in my comments, Mike, just to be clear, too, I did make the comment that we were confident that we would - not confident, but something close to that - close by the end of the third quarter.

That wasn't necessarily for me.

I think that's one of the two of us are going to close the thing.

Yes.

This should not drag on indefinitely.

OK, sorry.

Your confidence (inaudible) your ability to close it - not necessarily that you'll end up (inaudible) the buyer.

Yes.

But that was part of - part of your accounting assumption, Sam, right?

And the fact that you're capitalizing some of the expense associated with the pursuit rather than expensing all that due to the (inaudible) income statement.

Yes, that's clearly true.

And as I mentioned, our guidance does not include any further expensing of cost either incurred or about to be incurred for the transaction.

If we - if we lose the deal, then all of that gets charged off to the P&L in the third quarter - or within the quarter we deem (ph) that we're not going to win.

OK.

Thank you, guys.

You're welcome.

Raymond Elliott OK.

Gentlemen, do you have any closing remarks?

No, that's great.

We appreciate people staying on and so many good questions and a long call.

We look forward to talking to all of you soon.

Thanks, Leslie (ph) - I appreciate it.

Thank you, sir.

And thank you for participating in this Zimmer Second Quarter 2003 Financial Results Conference Call.

You may now disconnect.