Zimmer Biomet Holdings Inc (ZBH) 2006 Q2 法說會逐字稿

Good morning.

My name is Dennis and I will be your conference operator today.

At this time I would like to welcome everyone to the Zimmers second quarter 2006 financial results conference call.

After the speakers remarks there will be a question and answer session. [OPERATOR INSTRUCTIONS]

This presentation contains forward looking statements within the Safe Harbor Provisions of the Private Securities Litigation Reform Act of 1995.

Based on current expectations, estimates, forecast, and projections about the orthopedics industry, Managements belief and assumptions made by Management.

These statements are not guarantees of future performance and involve risk, 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, these are disclosure materials filed by Zimmer with the Securities and Exchange Commission.

Zimmer disclaims 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 always contains certain nonGAAP financial measures.

A reconciliation of such information to the most directly comparable GAAP financial measures, along with the other financial and statistical information for the period to be presented on this conference call was included in the press release announcing our earnings which maybe accessed from the Zimmer website at www.zimmer.com under the section entitled Investor Relations.

I would now like to turn the call over to Mr. Ray Elliott, Chairman, President and Chief Executive Officer of Zimmer Holding Inc.

Sir you may begin.

Good, thank you Dennis.

Good morning everyone.

And welcome to Zimmer's second quarter 2006 conference call.

We're pleased to be hosting this call to discuss the solid earnings quarter with underlying revenue growth that was as expected more of the same, relative to the first quarter.

There are no real surprises but also no changes in our belief that for Zimmer this marks the bottom of the sales cycle.

Strong margins focused expense management ratios as well as record cash flow production highlighted the quarter.

During the quarter we repurchased almost 5 million shares of Zimmer common stock and invested $309 million in doing so.

Major players of the orthopedics industry were during June subpoenaed as part of a Department of Justice anti-trust investigation.

As with yesterday's press release we will comment specifically on Zimmer's understanding of the events and our actions taken.

Joining me on the call today are Sam Leno, our Executive Vice President of Finance and Corporate Services and Chief Financial Officer, and Jim Crines, our Senior Vice President of Finance and Global Operations and Controller.

We'll begin today's call with comments related to our second quarter 2006, including an update on operations and followed by a Q&A discussion.

All comments and comparisons are on an adjusted basis.

Further all adjusted discussion excludes acquisition and integration expenses.

We'll focus most of our attention on constant currency revenues.

And at light of the inclusion of FAS 123R share based payment, we'll try to provide more useful apples-to-apples comparisons to prior year.

Let's take a look at the fundamentals of our second quarter in June year-to-date P&L and balance sheet performance.

Consolidated sales for the quarter were 882 million reported.

An increase of 4% to prior year, 5% constant currency, and not a lot different than expected but a very nice $21 million combined sequential sales increase in recon, trauma, and spine from the first quarter.

That 21 million sequential increase was delivered with one less billing day versus the first quarter.

The sequential favorable increase in recon alone of $16 million for Zimmer compares to Stryker at $2 million and J&J at negative 26 million.

Biomet was actually sequentially flat for the quarter ex instrument sales in hip, knee and extremity combined.

This would suggest that for the second quarter in real dollars Zimmer has substantially higher sequential growth in the market in recon, trauma, and spine combined.

We believe this substantiates our positive trend.

As our extremely difficult prior year comps, particularly in knees, and not actual sales dollar progress that obscure a promising view of our future performance.

In any event any small shortfall in sales were primarily related to countries specific strikes and government contractual issues in Germany, and Australia and New Zealand combined with female patients in the U.S. knee business waiting for broader gender solutions availability.

Combined, these issues far exceeded the less than 1% short fall to the street sales figure.

Non of these factors is an ongoing trend and all should right themselves before year end.

There seem to be some anticipation that we will reset the bar and lower our sales expectations for third and fourth quarters.

We have no intention or need to do so.

During the quarter on a constant currency basis our three geographic segments, Americas, Europe and Asia Pacific grew at 5%, 6%, and 3% respectively.

The latter of course negatively effected by the initiation of the new Japan pricing.

We believe on a weighted basis for our combines and reserve market our 5% growth will prove to be somewhat below market growth for the quarter, by considering our relative lack of new product mix available in the first half, we are much closer to market growth rates at the halfway point in the year than we expected.

June year-to-date constant currency sales are up 6%.

Recon sales grew 5% constant currency above what was expected, but in our case measured against 2005 constant currency comps of 14% recon growth globally and 17 % recon growth in the America's during the second quarter 2005.

For a little bit more granularity we believe the global constant currency recon market, based primarily on hips and knees and with about 75 % of the market already reporting, grew this quarter at f5 to 6%.

Composed roughly of 5 to 6% volume and mix and no price.

We perhaps differ a little from our competitors views.

We do see slightly less elective bookings domestically, but we can find no significant underlying future surgery demand decline or demographic trend differences.

Nor do we believe that such treatment options as [Cox 2s] or [heloranic] acid caused material surgical shifts in any given quarter.

Surgent capacity.

Operating room block time availability and hospital profitability relative to other disciplines may more likely be issues causing some periodic volatility.

Zimmer hips in the quarter increased by 3% constant currency verses the prior quarter of 7% and in a market growing at approximately 4%.

June year-to-date constant currency hip sales increased 4%.

Giving the just completed or pending releases of the Trabecular Metal Stem, the TMS [inaudible] revision system and the [Epic II] Stem, as well as 512K approval for both ceramic and ceramic and large diameter metal and metal, we are comfortable with our current go forward hip position.

Zimmer knees grew at 5% constant currency down from more recent results at 8% growth, but against a prior year global comp on 18% .

Knees as indicated were clearly effected by both Japan pricing, where we are the knee market share leader, and the future anticipation of broader availability for gender solutions knees.

We believe this quarter the global knee market is growing at about 7%.

We fully realize that knees are driven to a great deal by domestic results and the Zimmer Americas business in the quarter was measured against an extremely difficult 21% prior year comp.

June year-to-date knee sales increased by 7%.

Let's return to looking at the quarter in total.

Zimmer's 5% constant currency sales increased globally was composed of volume and mixed growth of 5%, an essentially flat price.

Worldwide price improvement had a 60 basis point sequential decline for Zimmer.

However, adjusted for Japan, Zimmer's price change sequentially was [diminimus] and remains better than anticipated for this point in the year.

In fact if you look at the last four consecutive prior quarters, price average positive 0.5 % and adjusted for Japan the second quarter shows continued stability.

In a total of two years the real moderation global price for Zimmer has been less than 1.5%.

In short there's been a gradual softening based upon our mix of countries, easily offset by corresponding and continuing strength in our gross profit margin.

In the same two years the price increases moderated 1.5 %, we have reported an increase in adjusted gross profit of over 3%.

Additional good news, our [Bell Weather Americas] geographic segment was priced positive of gain at 1.3 %.

As mentioned various times previously, the current 1.3 % price improvement for Zimmer does in part reflect an earlier conscience decision to negotiate longer arrangements with key [inaudible] groups, and is in fact better than the positive 1.2% price improvement for all of 2005.

We believe that this will service well not only now but in the foreseeable future.

The flat price globally in the quarter is all about Japan at negative 5.2% as anticipated.

Expectations for price have improved in Japan, certainly compared to our indications going into the year.

We now expect with confidence that the combined effect of the FAP for an average pricing on the [R Zone], the annual of Japan hospital price survey, for Zimmer only to be an annual 2006 P&L impact of only minus 3.7% based upon our specific product mix and the completed April 1 start date.

Without Japan our Asia Pacific segment is flat and price is expected.

In Europe, Germany seems more consistent minus 4.7%.

Iberia or Spain and Portugal combined registered positive price for Zimmer, as did France, Norway, Sweden, Finland, and Switzerland.

The U.K. was stabile prior to the quarter at a little under 5% negative.

Europe price in total for Zimmer in the quarter was minus 1% for the same as the prior four consecutive quarters but with a more stable country mix.

If the current trends continue in 2006 including Japan, the U.K., and Germany at low to mid single-digit price reductions, price for Zimmer, given our geographic weightings could actually be better than our current guidance of minus 1.2% price.

It's early and these are complex calculations given the variables, but we have excellent information technology for analyzing price and we pay close attention to the data and the implications of newly negotiated agreements.

I'll provide some detailed geographic and product sales analysis in a few moments, but the key to the Centerpulse deal was sustainable accretive earnings per share growth.

We continue to reap the benefits of not only our final integration work, but an intense focus on margin and mix management combined with prudent expense control.

We have done so without the sacrifice of key future personnel additions or technology investments.

In fact we're active on both fronts.

Adjusted diluted earnings per share inclusive of the share based payment for the second quarter 2006 were $0.83, on 247.7 million average outstanding diluted shares.

During the quarter we utilized our share buy back program to purchase a little under 5 million common shares, as measured by settlements, at an average price of $61.90 per share.

We utilized $309 million in cash for those transactions.

For the quarter we delivered an adjusted diluted EPS increase of 11% over prior year excluding the share based payment.

These results are 1% better than the first call consensus EPS estimate to be $0.82, in part driven by the share buy back, however many analysts assume positive share buy back effects in the model that drive first call estimates in any event.

It is important to point out, that there may be in some analyst calculations a belief that the share buy back in the quarter created $0.01 of diluted adjusted EPS.

The fact of the matter is when you account for lost interest income and add back the shares weighted consistent with our repurchases, the positive effect of the buy back is only 3/10ths of a $0.01.

And therefore our performance at $0.83 adjusted remains reflective of our operations.

The pattern of significant financial return from the Centerpulse deal reflected by both EPS and cash flow combined with our own distinct earnings drop through model continues.

Zimmer's gross profit margin in the quarter on an adjusted basis and excluding the share based payment was a very solid 77.5% down only slightly from the previous quarter at 78.2, and our 2005 average of 77.7.

Second quarter relative America's and knee category mix, combined with the decision to one time expense selected excess and obsolete inventories, including some older Centerpulse brands accounted for virtually all of the change.

With the vast majority of some 30 to $35 million in favorable integration synergies, as well as a long list of mix and cost reduction opportunities still in front of us for the reminder of 2006 and 2007, we are confident in the potential strength of our margins.

We believe that our gross profit margin is once again at or near the top of both the orthopedic industry and major medical devices.

The remainder of the P&L analysis will be on an adjusted basis as usual, but excluding the share based payment effects in order to provide a more realistic apples-to-apples comparison to prior year without the repetitive clarification language.

SG&A expenses and total operating expenses for the quarter as a ratio to sales were very good at 37.4% and 42.6% respectively.

At 37.4% SG&A costs were 140 basis points better than prior year at 38.8%, as we continue to remove unwanted cost and consolidate programs and staff relative to our acquisitions.

The actual absolute SG&A dollars verses second quarter 2005 were approximately the same on a sales improvement of about 35 million.

Year-to-date SG&A and operating expenses were 37.3% and 42.6% respectively.

We continue to take expense actions, excuse me, we continue to expect actions to enhance our leading position as the low cost manufacturer and low cost distributor while increasing long term key investments in such areas as orthobiologics.

Over a more than two year time frame starting with fourth quarter 2003 at 40.9%, we had publicly targeted to reduce SG&A by at least 200 basis points.

With this quarter's performance continuing at nearly a 400 basis point improvement from that point in time.

We expect that with the increase in total development projects and expanding number of external and internal technology and biological relationships.

R&D ratio to sales would operate between 5 and 6%.

During the second quarter R&D totalled $46 million, which was 3 million or 7% increase to prior year, and a ratio to sale the same as the prior quarter at 5.3%.

During 2005 we doubled our internal biological personnel and project related investments.

In recent months we have signed an exclusive relationship with Revivicor for Xenograft transgenic [persing] tissue replacement products, and even more recently committed $24 million to a new Warsaw based R&D center that is now nearing completion.

Recently we announced initial staffing of three new emerging technologies devoted solely to orthopedic applications for woven materials, sensor technology and drug device combinations, along with external research and intellectual property agreements.

We continue to shift R&D dollars to innovative investments, in some cases external to the Company and away from me to product duplication.

We continue to focus our business development acquisition targets on biologicals, dentals, spine and hospital productivity consulting.

For the most part in the 100 million to 400 million range for each potential purchase.

Total operating expenses for the quarter at 376 million represent an increase as with last quarter of only 1% to prior year.

Our 42.6% operating expense ratio sales was 130 basis point improvement over the second quarter 2005.

For reference in the second quarter 2006, actual acquisition and integration cost were $6 million but only 5 million year-to-date due to the first quarter credit related to a gain on the sale of the Legacy Centerpulse Austin facility, amongst other items.

We expect acquisition integration cost for the year 2006 to be approximately 10 to $12 million.

Adjusted operating profit in the quarter reached an all time record of $308 million.

Consistency matters, this is the seventh consecutive reporting period that we have produced at or more than a 1/4 of $1billion in operating profit.

Our operating profit to sales ratio at 35% of the quarter continues very strong and up almost 100 basis points from a strong showing in the second quarter of 2005.

During the quarter we believe we have recorded the highest operating margin in all of orthopedics and perhaps major medical devices.

As previously mentioned the Zimmer construct that we have today was modeled during the late 90's turn around, to register approximately $0.40 to $0.50 cents of operating profit reached new sales dollar.

In the second quarter of 2006 we have delivered approximately $20 million more of operating profit on approximately $35 million more in sales or about $0.57 of operating profit on every new sales dollar.

EBITDA in the second quarter continued to register over 40% as a ratio to sales and up 100 basis points from the same quarter prior year.

Adjusted net earnings in the period continued very strong at a record $220 million, with an industry leading 25% net margin ratio to sales, the same as last quarter, and up 150 basis points from the same quarter prior year.

Year-to-date our net earnings are up over 13% on a reported sales growth of 4%.

Our second quarter 2006 tax rate improved from full year 2005 by 90 basis points to 28.9%, and therefore our year-to-date ETR is 70 basis points better than the 29.8% recorded in second quarter 2005.

We are comfortable with these second quarter and first half 2006 P&L results.

We believe that we can continue to make substantial progress while simultaneously raising the performance bar on each line of our P&L.

While some deceleration can be fairly measured against very tough comps in the first half lack of new products, in part due to our resource allocation for gender solutions development, the third quarter sales growth rate should be better that the second and the fourth quarter better than the third.

The simple fact remains, in a somewhat different environment we have still delivered record earnings and cash flow again this quarter.

At this point I'll provide some brief introductory second quarter cash flow, excuse me, balance sheet highlights.

Cash generation remains fundamental to our story and our strategy.

Every company has their argument about whats important, as you know we like cash.

We had another terrific operating cash flow quarter.

Beyond the very favorable end of our expectations registering an all time record 305 million and up 25% over prior year.

Measured the gains net earnings these results demonstrate a 150% to cash conversion ratio from net earnings.

In less than three years of combined operations with Centerpulse, we have delivered almost $2.5 billion in cumulative operating cash flow.

Free cash flow in the quarter was also an all time record at $244 million, and at the end of the quarter we have 336 million of cash in equivalents on hand with only $83 million of debt, primarily obtained in Japan due to favorable spreads.

Year-to-date we have generated over $0.5 billion in operating cash flow.

During the fourth quarter our Board of Directors authorized a $1 billion common stock repurchase program through year end 2007.

Giving Zimmer another option to increase shareholder value.

As noted in our opening remarks we utilized $309 million in the quarter for settlements commissions to purchase a little under 5 million common shares.

As we've communicated previously we expect the funding of acquisitions to be the primary use of our cash flow.

In the second quarter we continue to be active in looking at and negotiating transactions that would fit with our previously announced strategy and parameters.

Speaking of enhanced share holder value, share holder equity has increased from zero to time of the spend to a little under $5 billion today or almost exactly $1 billion of new equity per year of public life.

Our second quarter combined working capital statistics continue to perform well and consistent with the large number of second half new product launches preparations underway.

Our combined inventory days are 273, a nice improvement of 12 days from the first quarter.

Our trade receivables collections provide support for a strong cash flow production.

In the second quarter we delivered excellent global trade receivables at 59 days, up two days from the 57 the first quarter but under our target of 60.

Really more to do with relative Americas to Europe sales mix this quarter but the U.S. has become a somewhat more difficult climate.

In constant currency dollars and excluding the effects of share based compensation, our actual dollars of inventory and receivables have increased by only mid single-digit percents versus the same period prior year.

Lets review the quarter sales in a little more detail.

For the second quarter, worldwide reconstructive sales increased to 733 million reported.

An important sequential increase of $16 million over the first quarter 2006 despite one less billing day.

A 4% reported increase over prior year and a 5% constant currency growth.

These grew at 5% constant currency and hips grew 3% in constant currency..

We expect the global recon market to be up 5 to 6% constant currency in the second quarter and as we indicated earlier we are a lot closer to market growth than we expected, in spite of our second half waiting of new product introductions.

Zimmer's year- to-date constant currency recon sales are up 6%.

Let's look at each global product category in geographic segment more closely.

First products in the knee category.

On a worldwide basis in the quarter, knee sales for Zimmer increased by 5% constant currency versus prior year to 368 million.

From a brand point of view our NexGen LPS-Flex continues a strong three year trend with a 21% constant currency increase to prior year in the quarter.

After over a year we have still seen very little direct impact from the two new competitive knee systems with respect to any actual change in operating room units of market share.

LPS-Flex and CR-Flex femoral component sales alone exceeded $50 million in the quarter but are still only about 30% of our own Zimmer knee femoral mix.

The Legacy Centerpulse [NX] knee, well regarded in mobile bearing circles, delivered excellent growth of 16% constant currency.

Our new [Uni] the industries first high flex single compartment knee increased sales by more than 15% due to prior year.

Offset to these positive knee performances, are reflected in several Centerpulse specialty knees and old Zimmer brands, that we continue to aggressively phase down.

Our new MIS Stem Tibial Plates for assembly inside the patient quickly jumped from an earlier launch to second quarter sales of over $5 million, up five fold from prior year.

LPS-Flex cross link prolong articulating surfaces have more than tripled last years units.

Trinica Metal Tibial trays have continued to take share.

TM Trip Tibial tray units increased by over 20% again this quarter.

We over achieved our 2005 target of $100 million in total Trabecular Metal sales.

As a data point of interest during the first half of 2006 Trabecular Metal product sales total almost $75 million, including a record 42 million in the second quarter.

A nice mix contribution.

Year-to-date knee sales totalled $734 million up 7% constant currency.

There continues to be excellent progress on the gender solutions female knee, and we'll briefly bring you up-to-date under hot topics.

Let's switch to hips.

On a worldwide basis in the second quarter hip sales were 299 million up 3% in constant currency.

For us [puller] stems and [inaudible] will be given additional new life by the TM and Epicstems literally just released, along with our new anti-lateral and post-lateral and [anterior supine] MIS techniques.

We are very encouraged with our targeted hip brands in the new company.

Our enthusiasm is based on the potential breadth and impact of both MIS and hip resurfacing, Trabecular Metal, Advance Policies, and the continued flow of economic data for Zimmer's MIS.

Zimmer fiber metal tapers along with the new [ML] taper are the stems of choice for our current MIS many anterior lateral and two incision hip surgeries.

In the second quarter these two stem families grew by over 10% in units bringing in a combination of Fiber Metal and [MLs] this quarter to $30 million in sales.

Speaking of MIS, new instruments for Legacy Centerpulse brands in Europe are already having an impact.

The CLS [poternal] with a stable $40 million per year sales base, mostly in Europe, had growth in the quarter of 10% or almost three times the current European stem market growth.

As previously mentioned we have just launched two new platform technology stems.

The very first Trabecular Metal stem and the Epic composite [Fullcoat].

Although released only in the quarter, the TM primary stem has already racked up sales of over $3 million.

Offsetting these very strong performances our fracture stems which continue to be negative.

And after [tabular cups] Trabecular Metal modular and Durom hip resurfacing continue to perform well.

Trabecular Metal Cup sales increased to well over 15 million in the quarter, a unit increase of 25% from the prior year.

The Durom cup and stem cells, including our fast growing and resurfacing product available selectively ex U.S. grew by more than 30% to almost $8 million.

We noted from recent publications, with even Tour De France winner Floyd Landice appears to have an eye on Durom as a first choice solution.

More good news on Durom, we just received our conditional approval from the FDA to proceed with our U.S. IDE.

Premium price longevity in Durasul highly crossing polyethylene liner units increased by 5% and when annualized delivered over $100 million per year in sales.

We believe that in the future [cold irradiated] mechanical [in yield] vitamin E or other poly technologies exclusive to us will be the true second generation offerings and could potentially revolutionize the industry.

Instead of Ex3, you could name the product exceptional if you want, but as long as these [inaudible] being offered today contain any free radicals they are by definition old generation and wear and future performance characteristics due to oxidation risk and wear and future performance is what it's all about.

Now in other words instead of telling us about bench data on theoretical wear reduction, tell us about free radical content and oxidation.

As you know our Trilogy AB ceramic and ceramic PMA has been approved the FDA.

The lack of ceramic and ceramic and large metal-- and large head metal on metal the approval for which is also complete has cost several lost individual surgery sales for Zimmer.

Beginning with mid July the situation will gradually change as we issue sets and begin the conversion to Zimmer.

We've also been very pleased with our performance on Palacos and other bone cement products.

During the quarter bone cement and accessories sales increased a gain by well over 50% to prior year with a new annualized run rate of over $60 million.

New platform products including the Trabecular Metal hip and Epic composite stem for MIS, TMS a tabular revision, new techniques like the Zimmer anterior lateral and now the posterior lateral and anterior supine, bigger metal and metal heads, ceramic and ceramic, and a new antibiotic bone cement, are targeted to make the second half better.

Hips year-to-date grew by 4% constant currency.

Legacy Zimmer's Bigliani/Flatow and Legacy's Centerpulses anatomical shoulders amongst other's continue to grow worldwide with a solid 19% constant currency increase in the second quarter.

Early approval for our new Zimmer [inaudible] shoulder should allow for a positive second half While our new Trabecular Metal reverse shoulder will take a little longer.

Total Zimmer extremity sales are now annualizing at almost $80 million.

To complete our reconstructive discussion, Zimmer Dental had another successful quarter with sales at a record $27 million, up 16% reported and 15% constant currency.

The dental business showed particularly solid performances in Americas and Asia Pacific with constant currency sales up 16% and 30% respectively.

Dental implants and prosthetic products combined increased for over 20%constant currency.

Dental regender of graft sales including our biological graph Puros were almost equally strong up 18% growth, and we will continue to move into biologics, computer assisted and digital technology, and of course value added education.

On the year-to-date basis our dental business has grown by 19%.

On a world wide basis in the second quarter trauma sales grew by 12% constant currency to $49 million.

The trauma market in general is having stronger results and we will need to make this kind of progress to match the global market, however we have only begun to deliver new products, and this 12% growth has nearly doubled the last two quarters rates.

But expanded field releases of our new locking plates, Periarticular sales in the quarter jumped by 32% and quickly reached an annualized rate approaching 30 million.

With the introduction of Legacy's Centerpulse service [inaudible] to compliment Zimmer's ITST, [inaudible] sales increased by 28%, a huge improvement.

Some of the gains continue to be offset by compression hip screws though as they remain weak.

Plates and screws in total were up 19% with our new [MCB] plates doubling with major releases.

As we convert to new products from old, deliver innovative solutions and make our recently announced trauma division fully operational, results should improve.

On a year-to-date basis our trauma business is up 9%.

Our Zimmer spine division increased sales by 12% constant currency, similar to last quarter but with a nice sequential increase of 7% to $46 million.

We are really pleased with this continued sales improvement.

Excluding spine orthobiologicals, it is clear that the spine market in the second quarter, primarily due to J&J's size and results was close to the same 12%.

Cage sales for the first time in Zimmer's ownership of almost three years actually increased to $9 million and were virtually flat as opposed to 15 to 20% down from prior year.

A good sign of stability.

A stronger story though is once again Dynesys, our Dynamic Stabilization System.

Sales reached almost $14 million in the quarter up 45% to prior year, and still out selling cages by over 50%.

Dynesys continues to grow into well over a $50 million brand and when combined with over $3 million of Spinal Trabecular Metal, these two new technologies delivered over $17 million of sales in the quarter or roughly doubled the contribution of cages.

As we've noted several times the combination of Trabecular Metal, Dynamic Stabilization and MIS, with our new pipeline and a few technology and biological acquisitions and now even the beginnings of a European disk, should create a globally competitive spine business.

On a year-to-date basis our spine business is up 13%.

In [inaudible] surgical and other products sales increased sequentially by $1 million from the prior quarter and declined versus last year by 5% to $53 million on a constant currency basis.

Obviously OrthoPat declining by $8 million to prior year took its toll as we phase out this distribution agreement.

We expect this decline to affect sales grow negatively by at least $8 million each quarter in 2006 and this is assumption is already implied in our guidance provided.

Fortunately our Japan power tool business and our global wound care business help offset OrthoPat a little with gross of 35% and 12% respectively.

On a new additions front Zimmer and [Breslar] USA have entered into a five year U.S. distribution deal for large and small bone powered surgical instruments and disposables including a Zimmer brand blade.

This is a natural product line extension and our first reentry to this market since the 1998 divestiture of the [Limbotech hall line].

Let's switch to a quick look at our new product development activities and performance.

Nearly 2/3 of R&D investment spending relates to innovative products and platforms with a real bent towards improved patient quality of life.

At the end of the second quarter, we are managing is 185 new products development projects with 50 of those projects currently in early stages.

Almost half of the total projects are in biologics, dental, spine and trauma.

Hip project launches in the quarter include the first Trabecular Metal Stem, the Trabecular Metal [inaudible] Revision System, the Epic Composite Stem, posterior lateral and anterior Supine MIS techniques, and Durom Resurfacing Instrument Components.

Coincident with these releases, the FDA approved our Trilogy AB ceramic and ceramic and metal [inaudible] large diameter heads.

In these of course, we completed the surgeon developer and limited release of the gender solutions knee amongst other projects but more on that later.

In trauma more [inaudible] locking plates moved to full market release along with the new [inaudible] or MIS jigs for femoral applications.

And dental the new one piece implant is on limited release.

And on biologics the FDA has approved our neo-cartilage I&D application.

For the record we have rebranded neo-cartilage as [Denovo ET] or in other word made of new engineered tissue.

We also received an expanded indication of approval from the FDA this quarter to all rotator cuffs tendons for a [ZCR] patch.

New products are expected to consistently deliver 15 to 20% of Zimmer sales each year from a rolling 36 month list of new products.

That is historically been 500 to 700 million in sales organically each and every year.

We've never missed that target since it was instituted in 1998.

We have in fact averaged about 18% to sales cumulatively per year for those seven years.

New product sales for the second quarter were a record $204 million or 23.1% of sales.

Lets look briefly at the geographic segments first in the Americas.

Zimmer Americas had a more challenging quarter without the ability of sell gender knees, ceramic and ceramic, or metal and metal.

But ultimately we have developed great [inaudible] demand for all of them.

Peer price on the other hand was successful a gain at positive 1.3%.

Americas revenue for the quarter was $521 million the second time they have reached the $0.5 billion mark up 5% over prior year.

The Americas reconstructive growth in the quarter was up 6%, and delivered 423 million.

This is slightly below market but with 16% prior year comps and most new products in the second half we remain very comfortable.

As we've stated earlier we are better off in the expected relative to market growth rates.

J&J, Biomet and Stryker, the latter two with major new knee release systems in full distribution are only growing combined hips and knees domestically at 7.5% in the quarter.

In our Americas reconstructive category knees had growth without gender at 4% increase to 236 million and despite an extremely difficult prior year same quarter comp of 21%.

NexGen LPS and CR collects the new high flex uni, Trabecular Metal tibial components, the new MIS stem modular, tibial and NexGen LTCK revision knees all made substantial contributions to the Americas knees performance.

Hips in the Americas increased 6% to 146 million and at market with domestic hip growth figures that now appear to be likely at the same 6%.

We're not really very satisfied with the Zimmer hip growth in the quarter, even though it is at market, but given the new stems coming our bone cement growth trajectory, Trabecular Metal [inaudible] systems and the approval of both ceramic and ceramic and large head metal and metal are in fact well positioned.

Americas hip performance benefited from [inaudible] Puros stems, Trabecular Metal Cups, and highly cross linked poly.

Our dental business in the Americas grew at 17% in the quarter to $27 million, up sequentially by over 10%, and we believe at rates over the market.

Here's a statistic we're always proud of.

The Americas operating profit in the second quarter 2006 set another record in dollars at $276 million for an operating profit to sales ratio at 53% up 60 basis points from the same quarter prior year.

Let's look at Europe, we continue to be pleased with the underlying constant currency sales growth and attraction being gained relative to the market.

In the second quarter European revenues were 239 million up 6% constant currency as with last quarter and with our product mix this growth is close to market.

As mentioned previously price declined in the quarter for Germany stabilized and this along with the previously described countries contributed to our negative 1% price for Europe, during both this quarter, last quarter and all of 2005.

We can still foresee a new DRG like tariff system in France, still probably mid single-digit negative very late if at all in 2006.

And some price improvements in Iberia and Italy.

Reconstructive implants in Europe delivered sales of 213 million in the quarter an increase of 5% constant currency.

European hips were negatively effected by German and U.K. pricing changes some rotating German hospital strikes and surgeon to synergies, but despite all these circumstances stayed much to our surprise in positive territory.

Knees grew a solid 8% constant currency.

Positive gains in the quarter reflect the continuing acceptance of both Durasul and Longevity highly crossing polys, some early impact of middle man base of instrument deployments, the growing acceptance of Durom and Trabecular Metal, as well as ongoing market share gains for the NexGen knee brand.

Many of Europe's country businesses performed well on a constant currency sales growth basis versus the competition.

South Africa, Sweden, the Netherlands, Spain, Russia, the Middle East, and Eastern Europe all grew sales for the quarter at double-digit or better.

We're pleased to report that as expected our Zimmer U.K. business rebounded to nearly double-digit growth after government opposed first quarter budget constraints.

Italy, France, Belgium, Switzerland, Australia remain solidly and positively territory.

The most significant difference between being a 7 to 8% constant currency growth in Europe verses our actual 6% was Germany, a series of unplanned hospital strikes, that we hope will reach mediation and remedy by the least in the near term tops superior to it broken down.

Germany remains one of Zimmer's largest markets and one in which we intend to clearly hold the leading market share.

When the strikes are over the patients there will still need us.

For the quarter Europe delivered operating profit approaching $100 million was again, an operating profit-to-sales ratio of over 41%, an 800 basis point improvement over second quarter 2005 and far from the less than 25% ratio-to-sales we registered during our first full period combines with Centerpulse in 2003.

In Asia Pacific revenues in the second quarter were 122 million and an increase of 3% constant currency.

These are acceptable results temporarily considering Japan's negative 5.2% price in the quarter and a regional strike in government contractual issues in our Australia, New Zealand territories.

We believe the Asia Pacific reconstructive market is now back to growing at single-digit rates and at local currencies, and as a result net of the synergies and government destructions we appear to be okay given the relative size of our Japan business.

In the second quarter our combined Asia Pacific businesses delivered reconstructive growth up 2% to $98 million in sales.

We expected Trabecular Metal tibial components for the NexGen CR flex knee and the strength of the Centerpulse natural need to continue to improve Asia Pacifics knee to performance.

This quarter up only 2% due primarily to Japan pricing and not due to relative market share in the operating room.

A new Japanese DCMJ's hip some hope for Trabecular Metal regulatory approval with MIS driven expansion will help to further grow our hip performance, which in this quarter was flat.

While our dental business is small in Asia Pacific, it did deliver another very strong 30% sales increase.

Several country growth rates were good with Korea and India both at 20% plus.

Japan despite a 5.2% negative price at a solid 5% constant currency growth in a market that now, that now with new pricing doesn't grow much over 3 or 4%.

Despite their usual strong earnings drop through form sales, the Zimmer Asia Pacific businesses delivered $59 million in second quarter operating earnings and a near record 48% operating profit-to-sales ratio up 360 basis points from the second quarter of 2005.

Let's move from products and geographies to hot topics.

Given our endless yet unsuccessful efforts to conserve your time I would like to bring you up to date on only three topics.

Our Human Motion Institute consulting capabilities, gender solutions knees activities including our "back in the groove" campaign focused on African-Americans, and to the extent appropriate the Department of Justice antitrust investigation.

During the quarter as you know we purchased 100% of share capital of the privately held [Muscle skull to] management systems LLC which is better known nationally by it's primary brand the Human Motion Institute.

HMI was established in 1998 to provide hospital focus consulting services to help member institutions design, implement, and manage successful orthopedic programs of distinction.

HMI today employs over 50 full-time staff, and operates several long term hospital service agreements.

Of the current agreements 90% are east of the Mississippi, and therefore the potential expansion this business is outstanding through Zimmer's national distribution system.

Our current thinking is to combine three existing Zimmer teams into a single focus business.

First the HMI team to provide the marketing infrastructure to address hospital concerns by focusing on improved outcomes and profitability through enhancing multi- service line efficiencies.

Second the Zimmer health economics and reimbursement team.

To provide a macro and micro economic data analysis, insurance payer and government systems analysis and reimbursement strategy.

And third the Zimmer pathways team to incorporate their knowledge of orthopedic operating room protocols and clinical pathways for improved process management, including MIS technique applications.

These three teams will form a new Zimmer business devoted to improved orthopedic hospital care, improved margins and building volume.

The foundation and structure of this new Zimmer business will include the following small sample of resource capabilities for hospitals and other orthopedic practices.

Business development, marketing, in/out patient rehab practice, clinical pathways, care mapping and space design, community relations, customer service, delivery models, cost accounting, and staff utilization to name only a few.

We believe that by focusing on orthopedics and creating a brand strategy, improving the program structure, integrating the referral sources, and engaging the physicians, we can substantially improve the hospital orthopedic profit environment, while simultaneously highlighting key Zimmer contributors, such as MIS, Gender solutions, Trabecular Metal, and intelligent tool technologies such as BRIGIT.

New product developments currently underway include a HMI institute and learning center, disease specific certification support, a nursing improvement series, and advances for the trademark HMI [Orthovow] product.

A web based tool to help hospitals manage their orthopedic service line volumes, costs and margins in a per case, per service, per location and per physician format monthly. [Orthovow] provides detail reporting of bench marks and comparisons to at this point potentially some 70 other institutional data bases.

One major investment bank and research group said recently in a note from a key surgeons survey, I quote, "Zimmer's supply change management efforts are truly differentiated.

Of all the major ortho's Zimmer appears to be the one company that is making significant efforts to help hospitals take out cost from the supply chain rather than simply reducing implant prices.

Upgrading hospitals IT hardware and software allowing for more efficient billing receivables collection inventory management, ZMH appears to be distinguishing itself from it's peers by recognizing that hospitals don't care so much about reducing implant pricing persae, but rather are focused on reducing total spend which can be accomplished by reducing inefficiencies in the supply chain."

We couldn't have said it better ourselves.

We believe that Zimmer combination of both products and services is differentiating and one of the future requirements for success in our marketplace.

Let's talk about women's knees.

The initial impact of the gender solutions knee has far exceeded our expectations today, but not in sales, because it remains primarily only in the hands of surgeon developers and very few key clinicians.

However, the surgeon, media and patient impact have been exceptional.

Of course to some degree, this is a negative with some patients electing to wait for the broader availability of our product, but as my old boss used to say, "this is a high class problem".

Allegedly one small California group of completely competitive non Zimmer surgeons threatened to sue us due to loss patients who are cancelling surgeries and seeking our gender solutions knee.

Can you do that?

This is America.

In any event we appreciate the free advertising and will not apologize if females wish to find the optimum potential solution.

Our competitors remain fixated with both new and old systems primarily on size or denial, we believe these will prove to be painful and ultimately unsuccessful arguments.

Here's what three independent groups said recently.

Doctor [Shari Marks] the Vice President of Scientific Affairs for the Society for Women's Health Research said and I quote, "Women today have an array of medical options for female specific conditions that they didn't have 20 years ago."

She wanted to provide as her only example, "The Zimmer situation is unique", said [Marks], "as far as we know this is the first company that has redesigned its product to fit women and that is significant.

Many devices are designed based on the male body, and orthopedics is where that is most obvious.

With these devices it's not just about making them smaller."

[Close Greenberger] the President of Women's Health Research, speaking of statement to CMS and Medicare regarding the proposed inpatient perspective payment rule changes said in our only medical device example, I quote, "Over the last 15 years we have effectively lobbied the public and private sectors for more research in how women are effected differently than men in the prevention diagnosis and treatment of disease.

We have gained tremendous knowledge through research and the result is improving care for women.

We now have diagnostic tools, tests and treatments that better account for the biological health differences between men and women.

For example we have replacement joints that are size and shape appropriate.

Previously such devices were often too large for them because they were designed with men in mind. "

A retired President of the American Association of orthopedic surgeons for AA West said this about Zimmer's product. "Traditionally the implants have been designed based on men's knees.

For women smaller implants were used but size did not resolve the anatomical differences which sometimes accounted for pain and discomfort and an awkward feeling.

This product is long overdue."

Since our 510K approval and subsequent press conferences in May, we have been granted more than 500 media placements and estimated combined audience of over 75 million people at a cost per thousand of less than $0.25 or 1/100 of a typical major television spot segment cost.

In part, due to our MIS media connections, we were the beneficiaries of major print and TV stories in the New York times and USA Today.

As well as the ABC World News Tonight, and FOX News TV.

Major ABC, CBS and NBC regional TV affiliates ran our story in more than 80 cities.

And several continue to run it.

Local public relations department for both individual surgeon, surgeon groups and hospitals are seeking reproduceable gender solutions materials to use in their own future ad campaigns.

We have completed and delivered more than 500 unique demo [suit] cases to date for our US sales force, to display both our in depth scientific rational and clear competitive comparisons.

Our direct to patient campaigns are well into the development phase with strategy and concepts complete and the research testing of production scheduled through the end of September.

From October to December we will launch initial advertising, other than institutional adds already released.

Execute a new micro site, along with local distributor marketing programs.

Of the $10 million in DTC assumed in the plan today for the early stages of gender solutions, only 2 million is utilized between May 2006 and year end.

The main TV ad, ad and co-marketing efforts will consume approximately $8 million between January 2007 to the end of April 2007.

We expect to initially blanket 11 cities or regions, with 5 of the cities being top metropolitan population areas.

Their locations will not be disclosed until the new year.

The national co-marketing partner targets have been reduced to approximately half a dozen, and have been the subject of exploratory meetings and communications since the May/June period.

Starting in the fall, we will begin one of the largest orthopedic component launches in our history, with plans for issuance of 180 sets of [ inaudible] solutions high flex components per month on an indefinite basis.

On related topic our "back in the groove' campaign primarily targeted to African -American population is off to a very successful start.

This is a grass roots campaign with it's primary message delivered at the local level through health fairs, churches, hair salons, barbershops and other gathering places.

The motivation is clear.

Nearly 4 million African-American suffer from arthritis and it is cited in research of the condition that most limits daily life for them.

We do not have equality of information or access in orthopedics, this will change hopefully in part due to programs like ours.

Obesity a significant risk factor in direct correlation to osteoarthritis, unfortunately effects this ethnic group to a greater extent than other groups.

On knees alone.African-American men are 65% more likely to have osteoarthritis in both knees, while African-American women are twice as likely to develop severe osteoarthritis in the both knees.

Our "back in the groove" campaign is targeted to build trust at the local level, including Zimmer African-American surgeons, provide real practical education and from our point of view link gender solutions knees and MIS protocols together as an integral part of this opportunity for progress.

Our first health program and health fair was held June 24th in Philadelphia with excellent success.

We were directly and actively supported by amongst others the National Medical Association from the [inaudible] surgeons, the Philadelphia Black Caucus, the Philadelphia Black Nurse's Association, Tabernacle churches and numerous senior centers.

We believe that gender and ethnicity combined will not only benefit society in orthopedics, but represent yet another chance for Zimmer to establish a leadership in first mover advantage, it's renovation and attention to real social and clinical issues.

Forbes magazine is currently researching a story on our work related to the "back in the groove" campaign, and it's implications.

Lastly, I want to comment on the subpoena we received in June from the antitrust division of the U.S.

Department of Justice.

Four of our competitors also have announced that they received subpoenas pertaining to the same antitrust investigation.

We believe that the following events gave rise to the antitrust divisions investigation.

In the fall of 2005 a single hospital conducted a bid process, for orthopedic implant pricing.

As part of that process a representative of the hospital sent an e-mail contain the hospitals proposal to the local representatives of various orthopedic companies, including Zimmer's local independent distributor.

Upon receipt of that e-mail, the representative of one of our competitors sent an unsolicited message to the same group of competitors that received the hospitals original message.

The competitors e-mail proposed that the orthopedic companies adopt a uniform pricing strategy in responding to hospital.

That is our understanding of what triggered the investigation.

I would now like to share with you what actions we took when Zimmer learned of our competitors proposal.

We advised our local independent distributor to reject it on behalf of both the distributor and Zimmer, which the distributor did.

Our written rejection stated emphatically that neither Zimmer or it's distributors will participate in pricing discussions with competitors, and that Zimmer's policies insist upon full compliance with the antitrust laws.

Throughout the following winter Zimmer continued to engage in it's own one-on-one pricing negotiations with the hospital, and successfully concluded a new Zimmer specific pricing agreement in early 2006.

Zimmer's cooperating fully with antitrust division investigation and will continue to do so.

As I'm sure you understand our comments in the script are limited to the specific incident, and we can offer no assurances as to the final outcome of this investigation.

In light of the ongoing nature of the investigation please don't take construe this discussion as any intent on our part to expand any duty we have may have to provide further updates or respond to questions related to this investigation.

In other words, please don't ask questions related to this matter during the Q&A session or subsequent for the call.

The reality is, it is difficult, not impossible to manage the headlines, we can only manage the business.

But Sam lots of good things to talk about anyway.

What are your thoughts on the quarter?

Thanks Ray.

I'll add some details to several key areas including price, volume mix and foreign currency, the impact of FAS 123R, acquisition and integration cost, interest in debt levels, minority interest, our effective tax rate, capital expenditures, amortization and depreciation, share repurchase, and finally guidance.

We include a break down of price, volume mix, foreign currency, and [inaudible] contributions to both geographic and product sales growth in our 10Q each quarter.

Many of you have asked for this breakdown in advance of our 10Q filing, but in the interest of time, I will not cover that level of detail now.

That information will however be available in the investor relations section of our website immediately following this conference call.

In the second quarter the negative contribution of foreign currency to sales growth was 7/10 of a point, or negative $6 million.

And as of Tuesday of this week the U.S. dollar had weakened only modestly against most major currencies as compared to the rates in effect three months ago when we conducted our first quarter earnings call.

If the U.S. dollar holds at current levels for the balance of 2006, the contribution of foreign currency to sales growth for the third quarter should be favorable by about 3/10 of a point or $2 million and the fourth quarter should be favorable by about 1.6% or $13 million.

These levels of contribution are already incorporated into our latest reaffirmation of guidance.

Effective January 1st we adopted FAS 123R share based payments using the modified perspective payment method.

In accordance with this adoption we did not adjust our historical financial statements to reflect the impact of shared base payments.

The adoption of this new accounting standard reduced earnings per share in the second quarter by $0.06 In order to understand comparisons to prior year, I will identify the dollar amount of this new accounting standard on each line of our P&L-- our adjusted P&L.

In the cost to goods sold line in gross profit we expensed $2 million or roughly 2/10 of a point of sales.

In R&D, $2 million.

In SG&A $15 million or 1.8 percentage points of sales.

Operating profit $19 million, 2.2 percentage points of sales.

The tax effect on that was $6 million or 7/10 of a point of sales.

And finally the net income effect of all that was $13 million, or 1.5 points of sales.

Our acquisition and integration line this quarter was $6 million.

And since the acquisitions of Centerpulse and [N Flex] we have spent $320 million on acquisitions and integration costs. $221 million of those costs have been expenses to the P&L.

Although the vast majority of the integration activities are behind us, a few items still remain and should be completed throughout 2006.

Some of those items include continued ITC--IT systems conversions, continued manufacturing and sourcing, and a few miscellaneous items.

The expense of integrating HMI, our newest acquisition should be immaterial.

The only debt we have in the books is $83 million in Japanese debt because it carries a very low interest rate.

With our continued strong operating of free cash flow, we have accumulated $338 million of cash on the balance sheet, and subtracting out the $83 million of Japanese debt we have a positive net cash position of $255 million.

Interest income in the quarter was $1.2 million compared to $4.2 million of interest expense in the second quarter of last year.

In the quarter we recorded $200,000 in minority interest expense related to one of our small European subsidiaries.

All references to our effective tax rate will be on an adjusted basis.

And our effective tax rate for the quarter was 28.7% which is 90 basis points below the full year 2005.

Year-to-date our ETR is 28.9%, and we still believe that a full year rate of 29% is a good target, although one of the remaining quarters of 2006 may be higher and one lower depending on the mix of geographic earnings, as well as other factors.

Capital expenditures for the quarter were $61 million consisting of $30 million for additional instrument sets, and $31 million for all other property, plant, and equipment fixed asset additions.

We are lowering our expected full year capital expenditure spending estimate from $265 million to $255 million, consisting of approximately $115 million in instruments and approximately $140 million in all other property, plant and equipment fixed asset additions.

Depreciation expense was $35 million, and as a result of the Centerpulse and [inaudible] acquisition and the related $596 million of amortizable intangibles recorded, amortization expense in the second quarter was $12 million.

On December 15th we announced that our Board had approved a share repurchase program authorizing us to repurchase up to $1 billion of Zimmer common stock, through December 31st, 2007.

In the second quarter we repurchased 4,994,600 common shares at an average price of $61.90 for a total cash outlay of $309 million.

Foreign currency exchange rates have become a bit more favorable since we provided sales guidance during our first quarter earnings call.

But due to the volatility of the US dollar, and because we provide a range of sales growth expectations we are reaffirming our previous sales guidance for the third and fourth quarters of 2006.

Each of the last two quarters is expected to increase in a range of 10 to 11%.

Our previous guidance for diluted adjusted earnings per share was $0.76 in the third quarter, and approximately $1 in the fourth quarter.

As a result of increased activities related to legal matters we have lowered our previous guidance by $0.01 per share in each of the last two quarters of 2006.

And therefore our new diluted adjusted earnings per share guidance is $0.75 in the third quarter and $0.99 in the fourth quarter.

In summary during the second quarter we've continued to demonstrate our ability to generate excellent earnings per share growth under a variety of different business conditions and we exceeded first call consensus as well as the top end of our previous guidance by $0.01.

In addition, we began to roll out a number of new and exciting products, including our new gender knee system, our Trabecular Metal primary hip stem and Acetabular revision system, our Durom Acetabular Cup with [inaudible] large diameter head, and our Trilogy ceramic on ceramic Acetabular system.

New products exceeded $200 million in the quarter representing 23% of our total sales.

Our dental, spine, and trauma businesses all experienced double-digit sales growth.

Our continued strong margins coupled with sound asset management contributed to a record operating cash flow of 309-- $305 million in the quarter which was 50% more than our net income.

Operating cash flow and free cash flow increased 25% and 42% respectively.

We're building cash on the balance sheet that can be used as a primary source of acquisition capital or to buy back shares.

Our effective tax rate is at an all time low of 28.7% and we purchased almost 5 million shares of Zimmer common stack during the quarter.

And finally in the third quarter we expect to grow our sales at a faster rate than the second and in the fourth quarter a faster rate than the third.

Our third quarter 2006 earnings call will be held at 8:00 a.m.

Eastern daylight time on Thursday, October 26th, 2006.

And now we'd be happy to take your questions.

So Dennis, we'll turn the call back to you.

[OPERATOR INSTRUCTIONS] Your first question comes from the line of Mike Weinstein with JP Morgan.

Hi guys this is actually [Taylor] here this year for Mike.

Hi [Taylor].

Good morning.

Curious about the back half of the year and your thoughts on looking at the U.S. hip and knee business and which of those two we should expect to grow faster.

I guess as I think about it, in terms of your new products you've got one big launch in the knee category with gender solutions and then a bunch-- but then a lot of new products in the hip division.

So interested in the relative impact of those new product launches.

It's an interesting one to answer, [Taylor], you're correct in what you said.

The--if you think about TM stem, Epic stem, Trabecular Metal asset tabular, ceramic and ceramic, etcetera, etcetera, and metal to metal.

It's obviously all hip but the hip didn't have a relative change in comps the same way.

I think to answer the question is hips are probably grow at a faster rate on a relative basis, however you have to appreciate, too, that gender isn't going to do much.

We'll certainly get some activity in the fourth quarter, we're not expecting very much in the third, so the impact of the so called big one in gender is obviously very late in the year post DTC and Moro 7, the hip has multiple products that should drive the rate higher. s

Okay.

As you-- and then just on gender solutions, I think I just naturally draw a comparison between it and when you started pushing MIS a number of years ago.

And just curious about how you think about those two and potential maybe in hindsight, how much did MIS benefit you verses the industry, and then how much to you think we could expect the same or different for gender solutions?

Yes, I think they look the same probably because our marketing style is similar.

I think they're distinctly different though in terms of MIS created a new set of techniques, some instrument changes, not too much in implants, although we've got strong IP, we haven't, we haven't aggressively probably defended it has much and I think it helped change the industry.

If you look at it now, I don't know what other people's-- competitors numbers are but I mean we've got about 55% if you just want to focus on short incision as opposed to anything else, but 55% versus probably 2% back when it started.

It helped change the industry, it got us market share and attention with surgeons we couldn't talk to prior to that, and I think we have others sales created by it.

Gender to me is different.

Gender is being underestimated for the huge level of science we have and our ability to make a scientific cell and I think attract competitive surgeons to us under the theory of doing what's best for their female patients, size is not going to answer.

That is a very different one.

It's going to be tough.

And I know there's a lot of noise out there right now on how it's covered off by the people.

This is going to be extremely tough for people to follow us once we get in full motion.

I mean we're not there yet, we're not even close, we're getting a free ride right now on some great media coverage.

We haven't even shown any of our marketing.

So I think it's distinctly difference--different in terms of where it's going to end up.

Okay, but I mean is it possible that we see third quarter knee number not pick up that much just with people continuing to wait for this product, or just as you put it, we aren't really going to see the impact until the--until closer to the end of the year?

Well we said all the way along that the gender solutions would be primarily a fourth quarter in '07.

There's no change in that commentary.

The catch is on knees we've got easier comps that we are heading into so it is not a case of knees not picking up, it's more a case of will knees pick up more primary due to some expansion of gender with high end clinicians, but primarily due to better comps.

So I wouldn't say knees won't pick up, I just don't think they'll pick up in the third quarter driven by gender solutions.

Okay.

Thanks a lot guys.

Okay [Taylor].

Your next question come from the line of Katherine Martinelli with Merrill Lynch.

Thank you.

Good morning.

You made comments about at this point prices looking better than the, I think it's a negative 1.2% globally that's-- you had been expecting in the beginning of the year.

Is that still the assumption in your sales and earnings guidance or have you adjusted that given those comments regarding price?

No we didn't, no.

You're correct in the former.

We, at this point, it would come in better than that 1.2 if the year ended today substantially, 'cause we're basically down 2,3, 4/10 of a point negative as opposed to 1.2.

We haven't adjusted our sales margins anything for that at this point in time we've just left everything as is, as if that 1.2 is going to happen.

So that's a-- and then and we've said this, I mean that's an upside potential but I'm not prepared to make that change at this point until we see some more data points through the summer and early fall, and then we may make a change if we feel it's material.

And then regarding the gender solutions since relative to our model you-- and the U.S. knees were maybe 7 million or so light, is there any way-- do you have any ability to track or quantify how much the delays with your docs may have resulted in the short fall?

We do, but we don't want to share that at this point because I think it's too much information for people.

I would prefer to keep that to itself.

What I did say is if you take the strikes in Germany, the shortfalls and strikes in New Zealand and add them together, none of those, of which we expected I might add, that would take you back over the street number for sales that was there, and that's what I said.

I don't want to break it down any further though, if I can avoid it.

And I know you said no questions on the DOJ, I'm going to throw this out as a clarification, but can you say whether or not they were aware of the comments you were making before you put the press release out?

I wouldn't, yes I would not comment on any conversations we've had with the Government or them with us, and I don't think they would appreciate it either.

Okay thanks.

You're welcome.

Your next question comes from the line of Milton Hsu with Bear Sterns.

Good morning guys.

Good morning Milton.

Ray, just wondering if you can help us quantify the benefit of cement sales to the hip business in the second half of the year.

I know that antibiotics cement carries a premium.

And can you just give a sense of how much it contributed last year now that you have all of Palacos, and what that would do for growth in the second half of this year?

I'd have to look that one up, milton.

I don't know it off the top of my head but I can tell you that our efforts-- our initial efforts, because our sales force was not accustomed to even to understanding, nor do we have a [inaudible] on antibiotics, so I can tell you the vast majority of our early effort from comparative point of view would have been a non-antibiotic because that's what they're most comfortable with now, over the period of time we've had it and through training of course they've become more comfortable with it.

So it 's going to have, compared to prior year would have a substantial positive impact.

I'd have to go back and look at the numbers but I doubt there's that much antibiotic in last year.

Well then maybe just--did you give of the--did you just mention the dollar amount of cement sales in the first half of the year or did I miss that?

No what I said was the run rate today--the run rate if we annualize it, is about $60 million a year in bone cement and bone related supplies and bone cement related supplies and mixing materials and all that sort of thing.

And that that run rate is up 50% over prior year run rates of bone cement and all the other supplies and accessories, etcetera.

Okay.

We didn't define it beyond that.

Okay, and then just a second question.

You mentioned that the start of the call volume mix was about 5, 6%, a little bit lower than the previous quarters, can you give us an idea of which one contracted, which component of that?

Well it's knees dominated because we dominated knees in Germany, we dominated knees in Japan, one got a strike the others got a 5% price reduction, as you know.

And we've got people cancelling surgeries which we--we may I don't know, I mean in some ways, it's not that we didn't think about it, but we frankly never put it in any numbers that we consider because we didn't think it'd be that much.

If you take all those three factors, those are all knee related.

So I mean that's where we look less than the others.

The other factor you have to throw in, Milt, is we had a 21% knee growth last year as the comps, so just the mathematics is against you.

So if you add all that together clearly knees is the answer.

Okay thanks.

Okay.

Your next question come from line of Matt Miksic with Morgan Stanley.

Hi, thanks for taking the question.

So one question on the comment you made about the selling days in the quarter.

Can you quantify that at all, what kind of impact that had?

Well, yes I mean typically you can just divide the days and get the number but it doesn't work that way because it depends what the reason was for the day being less.

In other words, was it a holiday?

If it was a holiday, was it a religious holiday because that has effects on which surgeons work and which don't.

And which day of the week was it because if it's a Friday it has a lot less effect than if it's a Monday or Tuesday where you get heavy surgery.

So the effect for us is sort of 8 to $10 million based upon what we know of that day.

But that's a sequential difference, you understand, not a difference to prior year, right?

Right, right.

Yes okay.

So because of where it fell when it fell, day of the week, religious versus nonreligious and all that we expect it's 8 to $10 million.

And by the way it also applies in many of the big countries but not in all of them, but it certainly applies in the U.S., which dominates the numbers.

And then on the gender solutions, wondering if you could talk about when we might see a--something on the hip side in gender solutions, when and if you're going to pursue something on the hip side?

Yes we've, well I can give you some general--I can give you a general time frame.

We have completed all the work with Doctor [inaudible] and the group at Oakridge University of Tennessee on analyzing three dimensional data CT scans and so on on females just as we did on the knee, that work is all complete, the analysis complete and we understand where we are and what we need do.

We already have had a development project underway before completing the data because the trend in the data was telling us the same kind of things that we saw in the knee elbow that different subjects have.

We would expect to be, I want to say a year away, I hate putting a finite time frame on it like that, but we would expect to be a year or less away from being able to have a full blown program.

And if you think about it that's actually pretty nice timing because we're very-- the knee is a lot of work.

It's a lot of marketing work, it's a lot of scientifics, a lot of paper writing.

So by the time the knee gets really rolling is going to be first and second quarter '07, and that's about the same time we'll just start to hit and roll the--layer the hip in on top of it or after it.

So it's actually more good news, I'm not sure we can handle both right now frankly.

Okay.

And then I'll also ask a question, even though you said not to ask any questions related to-- the one part of the story of the antitrust investigation that's a little foggy is how exactly-- who stepped forward and-- who stepped forward to bring the DOJ into this, and obviously because the corporation that did that is eligible for some of the corporate leniency policy that the antitrust division has in place for these kinds of investigations.

Can you talk at all about whether you feel like you're pursuing that, or eligible for that, or were involved with stepping forward?

Well I'm not-- no, I'm not going to comment at all on that although I'll answer it in a back handed way, I guess.

I don't know and nor do we know who, I don't know, it may have been a whistle blower.

I don't know that it was coming-- I don't know so by definition, if I don't know, that answers your question.

Yes it does.

All right thanks.

Your next question comes from the line of Bruce Nudell with Sanford Bernstein.

Hi this is actually [Eric Schneider] in for Bruce.

You mentioned a couple of specific weaknesses OUS on the knee side and we've just been looking at the trends in the U.S. knees where we've seen '04 looked at about 20 plus percent growth year-over-year. '05 was about 17.

Looking at this last quarter looks like about 9% market wide.

Wonder if you've got any insight into what's driving that market wide growth?

You mean driving it down or what's driving the 9?

I mean it's clearly down from, and think we've commented on a number of occasions in terms of system changes, planning and hospitals, operating block times, I think it's a variety of situations.

I don't think-- I read Bruce's work pretty carefully in fact I contribute to it sometimes, I don't think it's just outpatient data and matching that up against for instance hospital pricing or reimbursement trends, that's a factor but it's one of 30 or 40 factors involved.

I think it's relative availability of new products.

I mean two large companies have new systems, two others don't.

There's a lot of factors going on there.

But I don't see any--we keep going back to 25 or 30 factors that we use to look at that interact with each other in looking at the future, which does not tend to be in your data because you're looking at release data from Maryland and Florida and 100 hospitals in New York.

We're tending to look at obesity and activity and other factors that will contribute to our marketplace.

We don't see any long term underlying change, there's periods of volatility created for the reasons I described.

But we don't frankly-- I can agree with the math you do but I think you have to look at the interaction of 25 or 30 different factors with and against each other to finally determine where this markets going to go.

And I come right back to what I've said 100 times publicly and that's, and that;s what we see this marketplace and the kind of 8, 9% range.

Hips and knees you can add in other factors if you want.

But I don't--I can't come up with any underlying changes that are meaningful over any period of time as opposed to quarter-to-quarter.

It sounds like the one specific one you mention most often is the relative availability of new products.

So it sounds like you'd put it more to lack of mix up shift in the past year rather than any other slow down on the volume side?

Well, I think that's an influencing factor, it may be the more predominate one right now.

But I think there is some reduction elective surgeries, I just don't think it's meaningful to relative patients that are out there that need this.

I mean look at the script commentary I just put in on African-Americans alone, I mean it's 4 million cases that are underserved. 15% of women that need surgeries don't even come in and get them.

I mean I can sort of quote all the other statistics, as well.

I think the underlying unit growth is still there, that we've talked about.

I think mix upgrades will be there but I think you better be able to explain to hospitals and insurers and so on the clinical and economical value of their upgrade.

I don't think mix is going to be as easy a sale.

In the numbers that you quoted from prior years you've got substantial price in there that we don't have today.

And it may or may not come back, that's tough for any of us to know.

So I think there's--I think if you break the components down you can get at the differences, but I don't think that there's no overwhelming sort of dominate factor particularly.

Okay and then finally speaking of reimbursement.

Do you have any insight on the Medicare front?

It's hard to tell.

On the one that I'm following most closely, there's the sort of the mix between cardio and arthritis-- I don't see anything coming out of that that's [inaudible] negative for ortho at all, maybe some minor adjustments.

But I think on the political front, the one I follow very closely, and get very involved in, in fact, is the whole issue of inpatient system changes, going from charge to cost severity and all that.

I--it's hard to tell where they're going to go with this.

It's really politically complicated but I'm inclined to think they will phase in the cost part, in other words going from charge to cost and they will be careful to analyze the severity, and I'm not sure what they're going to do with that.

If in fact that's the case and it was cost from charge to cost system only phased in over three years for sake of argument, that is favorable to orthopedics based upon the errors that are in their calculation today and the corrections of the errors.

Severity would take it back a bit the other way so it's-- your guess is as good as mine.

I try to follow it closely, but it's tough to tell where it's going to go politically.

Thank you, those are all our questions.

Your welcome.

Your next question comes from the line of Steven Lichtman with Banc of America Securities.

Thank you.

Good morning guys.

Good morning Steve.

Can you guys give us an update on Centerpulse synergies.

Any change in the expectations for this year on the positive impact from the closing of the Austin facility?

No changes from what we've said many times before.

The last major change we made and now goes back a couple years when we increased our total expectation that we had initially said was a range of 70 to $90 million of savings to north of 100 million, and that's still-- that's still true today.

In the last third of that is a combination of manufacturing and distribution, which is what's going on this year.

Perfect.

Thanks Sam.

Do you factor in some impact from the German strikes in the 3Q outlook or is it not much as much of a need to move overall?

I did actually factor it in but it was offset by some other gains, I didn't factor it in the fourth quarter because I've got to presume, I mean they've got 15 to 20,000 surgeons rotating in and out, and as you know we've--I publicly disclosed it many times, depending on the US dollar, we've got about a $200 million business there that's 50 million a quarter that's being impacted by rotating strikes.

Now it's not as if obviously there's no surgery going on.

I'm presuming that they will get this resolved.

They're not going to get it resolved in August because that's vacation time for everybody in Europe, but I'm presuming they will get it resolved very early in the September as we head into the heavy part of surgeries everywhere in the world as people try to get surgeries done before Christmas, but they won't let this continue.

And therefore I have accounted for that, it's just not visible to you because there's other offsetting things.

Sure thanks Ray.

And then on GSF, I apologize, you discussed a number of sets per month expected but did you mention when you exactly thought that would begin, and is it that level of constant or is it going to be building from there in the coming months?

Just to get a little bit more color on that would be great.

Okay, it's not for awhile obviously because it's in to the fall and we're working with the developers right now.

But we believe-- and that's the largest rollout we have done ever of anything ever, at least so I'm told by the folks that have been here a lot more years than I have.

And that will start coincident with the impact patterns that we expect from the DTC.

Will it go up to 250 sets a month?

I hope so.

I mean I'm--we'll build them if we need them.

But at those numbers at 180 that will represent a huge build.

We'll pattern it that way for the first few months and then see how we are doing.

And obviously it could go up.

As a start out number that is a gigantic rollout.

Okay thanks and then lastly, in the U.K., can you give us a sense, I'm not sure if you mentioned this, just the latest in the field, any improvements with regard to what's going on in NHS or is it very similar to what was going on in 1Q?

No, no it's actually has improved.

I comments with so much detail I know it's tough to pick all of this stuff up in the script.

But I did comment that we bounced back to nearly double-digit growth in the U.K., which for us is very good and that the dollars are flowing back in.

I have not looked at the competitive numbers for the U.K. yet so I can't comment on the market although I suspect most people would do better, but certainly we just bounced right back in the quarter.

And that's a good thing obviously.

Great, thanks guys.

Your next question come from the line of David Lebowitz with Thomas Weisel.

Thanks for taking my question.

A quick question on the ceramic on ceramic hips, I know you just recently made a launch and got the approval, where should we expect to see sales coming from that.

Should we expect to see them coming at the I guess-- to replace loss sales that from not having the technology, or should we expect to see new growth and taking additional share?

I don't--we're certainly going to go back and get every quote [inaudible]surgeon that's doing one off's and two off's and of course try to move them back to that.

And that is a substantial number of surgeries.

It's surprising when you add up all the [onesies], [twosies] in a country this size.

I doubt very much we would take share with it because the other product out there are good products, I don't think we have l anything substantially better to offer, we probably have a couple of good arguments, but I wouldn't be surprised.

I think what we will do is get virtually all of the [onsies], [twosies] back that we've been loosing for some time.

And at the average price of a ceramic and ceramic surgery those are healthy dollars.

So would this be incorporated into the second half guidance?

It has been.

I'm sure.

And I guess one question on neocartilage or I guess Denovo ET, could you give us an update on what that clinical trial might actually look like and the timing?

I'm going to do that on the next call because I'm waiting to get that all in great detail, we just got all the stuff back from the government on those protocols.

I don't know how much we're going to be willing to disclose but I will do that to the extent that it's appropriate in the next quarter when I get everything back from our clinical affairs and all of our R&D people.

I don't have it and I haven't reviewed it in detail yet.

Okay.

Thanks for taking my question.

Your next question come from the line of William Plovanic with First Albany Capital.

Great thank you, good morning.

Good morning Bill.

Just a point of clarification if you could.

In terms of the rollout of the instruments sets for the GSF, what's the gating factor in that?

The gating factor generally speaking is to extend instruments have lead times that are [inaudible].

But these are sets of implants.

The instrument builds for the most part are just simply building upon the instruments that we have today.

There's technique changes, but not instrument changes.

The differences is in the provisionals of course that you use to, if you will test out the fit function and the surgery prior to putting in the final implants.

So it's not really a big instrument limitation.

Other than if we already have external suppliers who are busy with providing regular NexGen.

It's not a real impact of course.

So it's really just building the inventory of the actual components of the implants?

Well, that and the fact that we have to build safety stock.

We've got to build-- implants are bell curved, so you've got to have the really small and the really large sizes to protect people.

In many institutions you've got--we've got to build multiple sets because of the number of surgeries they do.

And then we've got to have a safety stock because the last thing you can ever do in this industry is back order a live surgery, I mean that's a disaster.

There's quite a bit of [gold] effect to it.

How long, I know you said fourth quarter '07 type of impact, but how long will it take you to build the necessary safety stock and instrumentation that you need to go full launch?

Let me correct you, I said some initial impact in fourth quarter '06, is that what you meant?

Yes I'm sorry.

These things tend to take four to six months to build all your safety stock and build up your requirements, so it's a progressive-- Otherwise you've got huge amounts of overtime.

If you've got outside people doing work, sometimes they can't do it.

So it's typically, to get to where you absolutely--especially if there's a big run on the product early.

If it is a more sort of disciplined rollout and the demand is pretty much as you expected then obviously it's a shorter space of time, you'd probably do it in two to three months.

And when did you start building?

Start building any reasonable amount May, June, not very long ago.

And then are there any other gating factors in terms of the ceramic on ceramic or in the Durom large head products?

No ceramic and ceramic, non on the metal on metal, none other than the fact that we use a slightly different titanium surface powder than is used in Europe at our Swiss facility, so we have to bulk up on that powder through our outside vendor, but other than that, no.

And when would you expect to have full safety stock available for launch of those products?

We'll be selling them from-- we started in mid July a little bit--we'll be selling August is of course a pretty quiet month, but we'll be selling in September, a gain on that one it's probably about a three month build to do safety stock.

I wouldn't think it's longer than that.

The ceramic of course we import in from Ceramtech.

And that--those boats have already been delivered.

And no issues, you're full stock on the ceramics?

No issues that I'm aware of, no.

Okay great, thank you.

Your final question comes from the line of Michael Matson with Wachovia Securities.

Hi, this is Vincent Ritchie.

Hold on one second.

Hi, it's Mike Matson.

Sorry, I'm jumping on from another call.

I apologize.

We went at high speed today to protect all the Boston scientific people so I hope they're appreciative.

Okay.

And forgive me if this question has been asked, in terms of the HCA, being taken private, do you foresee any sort of impact from that on your contract there or your business there, or on the overall orthopedics industry at all?

Well all-- I mean our contracts have changed to controlling, so I don't anticipate any changes, it's a five year agreement regardless of what their corporate or capital structure is.

Okay and then your metal on metal large head hip launch, is that completely out?

Is the full lineup of sizes out on the market now?

No, coming soon.

We are just building that.

It takes two or three months to build safety stocks and put it out on the market.

Plus our guys--some, not everybody is completely trained, the ex-Centerpulse people are probably more knowledgeable.

So there's some time effect there, but we're in good shape in terms of being ready to go.

Okay.

And then just can you provide us with an update of the penetration of cross link--of your cross link poly in your knee products?

Oh in knee -- good question, don't have the data right in front of me.

I'd have to calculate the data because I stripped out some of that commentary to keep or speech shorter so I took some of the mix stuff out.

I'll come back to you on that I haven't got that off the top of my head.

Alright no problem.

Okay.

That's all I've got, thanks.

Great.

Okay well thanks folks, appreciate the time, I know it's a busy morning with Smith Nephew and Boston Scientifics.

So we appreciate the time you've been able to devote to us and we'll talk you next time.

Thank you.

Ladies and gentlemen this does conclude the Zimmer second quarter 2006 financial results conference call.