Zimmer Biomet Holdings Inc (ZBH) 2009 Q4 法說會逐字稿

Good morning.

I'm Paul Blair, Vice President of Investor Relations for Zimmer.

I would like to welcome you to the Zimmer fourth quarter 2009 earnings conference call.

Joining me today to host this call are David Dvorak, President and Chief Executive Officer, and Jim Crines, Executive Vice President, Finance and Chief Financial Officer.

This morning we will review our performance for the fourth quarter and the full year 2009, provide you with an update on certain key matters, present our outlook for 2010, and conclude our discussion with a question-and-answer session.

We understand that this is a very busy reporting day and we'll do our best to keep today's call close to an hour in length.

Therefore, we ask that participants pose one question, with one follow-up to allow as many callers as possible the opportunity to take part in today's call.

Before we get started, I would like to point out that this presentation contains forward-looking statements within the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995.

Based on expectations, estimates, forecasts, and projections about the orthopedics industry, management's beliefs and assumptions made by management.

These statements are not guarantees of future performance and involve risks, uncertainties and assumptions that could cause actual outcomes and results to differ materially from those in the forward-looking statements.

For a list and descriptions of risk and uncertainties, see the 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 also contains certain non-GAAP financial measures.

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

A rebroadcast of this call will be available approximately two hours following the conclusion of this call, through the end of the day on February 11th, 2010, and can also be accessed from the Investor Relations section of the Zimmer web site.

At this time, I would like to introduce, David Dvorak, President and Chief Executive Officer of Zimmer.

Thank you, Paul and good morning, everyone.

We are glad you joined us on the call today.

This morning, I will review our fourth quarter 2009 results and provide comments on several highlights from the quarter.

Jim will then provide additional financial detail as well as our 2010 guidance.

Net sales for the quarter were $1.1 billion.

We are pleased that our earnings per share were $1.12 adjusted, above quarterly consensus expectations, and in line with our 2009 guidance.

For the quarter, we once again recorded year-over-year sales growth in all three of our geographic reporting segments.

Asia Pacific showed notable strength with 6.8% constant currency growth.

We are encouraged by the sequential improvement in our knee business which posted worldwide year over year growth of 5.5% constant currency and incremental growth over the third quarter of 270 basis points.

Flex knees accounted for 57% of our knee unit sales on a global basis in the fourth quarter.

For the second consecutive year, flex knees represented more than 50% of our annual knee unit sales.

Worldwide knee growth was led by the Asia Pacific and Americas geographic segments with 10.3% and 6.2% constant currency growth respectively.

Reconstructive sales increased 3.5% in constant currency in the quarter.

Our 5.5% constant currency knee sales increase represents volume and mix growth of 6.2%, partially offset by negative price of 0.7%.

Hip sales were down 0.4% in the quarter in constant currency, reflecting positive volume and mix of 0.4%, less negative price of 0.8%.

In the quarter, our European businesses kept pace in a challenging market.

This performance was offset by continued sequential improvement in the Americas and Asia Pacific, with our new stems, including the Zimmer M/L Taper hip prosthesis with connective technology and the bone conservative Fitmore hip stem leading the growth.

Although we are just in the early phases of launching our new Acetabular cup systems globally, the feedback we have received from the field has been very positive.

Extremities posted healthy results for the quarter with sales growth of 15.2% constant currency.

Once again, our proprietary Trabecular Metal technology is playing a critical roll in addressing previously unmet clinical need in the expanding extremities market.

And during the quarter we experienced continued rapid sales growth of our Trabecular Metal Shoulder Glenoid.

Dental sales on a constant currency basis decreased 4.5% for the quarter.

A weak global economy continues to adversely affect market demand for dental implants.

For the quarter dental sales in Asia Pacific increased 11.5%, but were more than offset by slower sales in the Americas and Europe.

Our dental business is performing in line with the market.

We continue to believe the dental market will rebound as the global economy recovers, and we look forward to new opportunities as our product line is expanded through internal and external development efforts.

Trauma sales in the quarter were up over the prior year period 6.6% constant currency, with particularly strong growth in Europe, which was up 24.9%, driven by Intramedullary nail sales.

Zimmer spine reported a decrease of 14.7% constant currency in the quarter.

Our spinal business continues to experience reimbursement challenges related to the Dynesys dynamic stabilization system.

The recent FDA panel recommendation was disappointing but we are working with the FDA to determine the best path forward for this technology in the United States market.

The Abbott Spine transaction closed just over a year ago on October 16th of 2008.

So our fourth quarter results largely compare performance on the -- of the combined business.

We're coming to a close of the integration effort, and we have successfully enhanced our product offering.

We'll still see some revenue dis-synergy and disruption in 2010 in our spine business.

However, we believe that we have a solid portfolio of products and pipeline as well as a broader global distribution channel that will allow us to take advantage of our investment in the spine business.

We remain committed to this attractive market.

In the fourth quarter our orthopedic surgical products franchise experienced 13.4% constant currency growth.

Sales growth and bone cement, as well as the return to market of wound debridement products helped drive the growth in OSP.

There were several highlights from the quarter that I would like to mention because they lay a strong foundation for sustained growth in the year ahead.

In November, Zimmer received FDA clearance to market in the US two new Acetabular Cup systems -- the Zimmer MMC Cup, our new hemispherical, large diameter head, metal on metal cup system, and the Zimmer Continuum Cup, our new modular, multi-bearing surface, Trabecular Metal Technology Cup system.

These systems gives surgeons a comprehensive aware of Acetabular Cup solutions that in concert with our comprehensive stem portfolio provide tremendous patient matching options for surgeons.

On the knee side, we reached another important milestone in late November, with FDA clearance of our Zimmer patient-specific instruments.

Zimmer's patient-specific instruments enable a physician to tailor the surgical plan to the patient's unique anatomy, leveraging the physician's own expertise with the industry's leading knee system.

Unlike some patient-specific instrument solutions that create fixed cut guides, we create pin guides that utilize the existing cut guides, preserving interoperative flexibility.

Empowering the surgeon and preserving interoperative flexibility are hallmarks of Zimmer.

Our cut guides are more opposing -- offer a more opposing surface to create what we believe is a much better, more reliable and more confident fit.

Zimmer is one of the only companies with FDA clearance for both preoperative planning software, and patient-specific pin guides.

Of course, these new products will require time before their contributions to sales and earnings are fully realized, however, we are encouraged that they have been very well received in the early stages of both their international and domestic launches.

We have completed the infrastructure investment projects in Eschbach, Germany, our automated centralized distribution for the Europe, Middle East and Africa region and in Shannon, Ireland, our new implant manufacturing facility.

Both facilities are now operational and providing the planned economic benefits that we can look forward to for the full year 2010.

We finished the year in a strong position in our medical education programming, provided through the Zimmer Institute.

Our new model for education and bioskills training has now been implemented around the world and is delivering high quality, highly interactive learning for surgeons and clinicians.

Another highlight for the quarter was the excellent job that our associates have done in focusing on working capital management.

Because of these efforts, our cash flows remained especially strong during the quarter.

Jim will provide more detail about that in his remarks.

Finally, I want to briefly mention the senior unsecured notes offering we completed in the fourth quarter of 2009.

We took advantage of a great opportunity to retire some pre-existing debt to further strengthen our balance sheet.

We are pleased with the results of the offering.

With respect to guidance, we provided our outlook for 2010 in the release this morning which reflects our expectation of delivering sales growth and leverage earnings.

Jim will now provide further details on the quarter and our guidance.

Jim?

Thanks, David.

I will review our performance in the quarter in more detail and then provide additional information related to our 2010 guidance.

Our total revenues for the quarter, as David mentioned, were $1.107 billion, a 2.5% constant currency improvement compared to the fourth quarter of last year.

Dollar strength in the quarter resulted in a tail wind from foreign currency translation, which increased revenues by 5% or $52 million in the quarter.

Consolidated pricing was down 0.3% for the quarter.

Pricing in the Americas and Asia Pacific was negative 0.7% and negative 0.5%, respectively.

While European results include positive average selling prices of 0.7% compared to the prior year fourth quarter.

While price pressures persisted throughout 2009, our contract management personnel working diligently with our direct and indirect sales channels managed to effectively defend the outstanding value proposition our devices offer for patients.

Our adjusted gross profit margin of 75.5% for the quarter is down is 130 basis points from the prior year fourth quarter and in line with our expectations and the comments we have made on previous calls.

Higher unit manufacturing costs as compared against the prior period accounted for the majority of the change.

Moving down the income statement, R&D expense as a percentage of sales was similar to last year at 4.7%, and at $51.6 million for the quarter is up slightly on a total dollar basis, when compared to the prior year.

Our total R&D spend was 5% of sales for the full year, within but at the low end of our expected range.

Selling, general and administrative expenses increased to $460 million in the fourth quarter, however, at 41.6% of sales, SG&A expenses are 60 basis points below prior year fourth quarter.

As indicated in our release, the Company recorded a goodwill impairment charge of $73 million in the fourth quarter, related to our US spine reporting unit.

The impairment is a noncash charge and is not deductible for the cash purposes.

So the charge amounts to $0.35 per diluted share on an after-tax basis.

Goodwill is tested for impairment on an annual basis and whenever events or changes in circumstances suggest that the full carrying value of the reporting unit may not be recoverable.

In accordance with accounting policies, as described in our Form 10-K, we performed the annual test for impairment in the fourth quarter.

During the quarter, we determined the fair value of the net assets by US spine reporting unit by discounting to present value its estimated future cash flows.

Due to reimbursement and competitive challenges impacting sales of Dynesys in the US, including the non-approvable recommendation by the FDA advisory panel last November, among other factors, the estimated discount of future cash flows for our US spine reporting unit were negatively impacted, causing the fair value of the net assets of the reporting unit to be lower than the carrying value.

We calculated the fair value of goodwill and determined that the goodwill assigned to our US spine reporting unit was impaired.

Continuing down the income statements, acquisition integration, realignment and other amounted to $9.6 million in the quarter.

Adjusted operating profit in the quarter increased to $323.7 million, a 29.2% or adjusted operating profit to sales ratio is 70 basis points lower than the prior year fourth quarter, largely due to higher production costs.

Net interest expense for the quarter amounted to $8.7 million, mainly due to the $1 billion senior unsecured notes offering we completed in November 2009.

Adjusted net earnings for the fourth quarter increased 5.1%, compared to prior year at $236.1 million, and adjusted diluted earnings per share increased 12% to $1.12 on 211.2 million average outstanding diluted shares.

These adjusted earnings per share are inclusive of approximately $0.06 of share based compensation.

At $0.74, reported diluted earnings per share, which include the items reflected in the goodwill impairment, certain claims and acquisition integration alignment and other decreased 1.3% from prior year fourth quarter reported EPS of $0.75.

Our adjusted effective tax rate for the quarter was 25.1%, and our full year adjusted tax rate was 26.9%.

The rate for the full year was lower than anticipated, and part of the consequence of certain realignment initiatives that drove higher profitability and low tax jurisdictions.

During the quarter, we used a portion of the proceeds from our notes offering to repurchase nine million shares at a total purchase price of $519 million.

Approximately $211 million remain authorized under a $1.25 billion repurchase authorization, which expires at the end of the 2010.

The Company had approximately 204 million shares of common stock outstanding as of December 31, 2009, down from 213 million as of September 30, 2009.

Operating cash flow for the quarter amounted to $385.5 million, up 86% from $206.9 million in the fourth quarter of 2008.

Increased net earnings and focus on working capital management contributed to the improvement.

A $336.2 million in the fourth quarter we accomplished another quarter producing exceptionally strong free cash flow, defined as operating cash flow, less outflows for instruments and property plant and equipment.

Free cash flow for the full year was [$888.7] million.

Our employees worldwide have taken on the challenge of better managing the inventory assets required to meet ever increasing service levels.

We entered the year intending to decrease investment in inventories on a constant currency basis while maintaining the same service levels on order fulfillment.

We achieved that objective.

We are also pleased with the outstanding results our business units achieved with accounts receivable collections in a challenging environment environment.

Adjusted inventory days on hand finished the quarter at 302 days down 51 days from the third quarter.

Our adjusted trade accounts receivable day sales outstanding finished the quarter 56 days -- a seven day improvement compared to the prior year quarter and three days better than the fourth quarter of 2008.

Depreciation and amortization expense for the fourth quarter amounted to $87.8 million.

Capital expenditures for the quarter totalled $49.3 million, including $21 million for instruments and $28.3 million for property, plant and equipment.

As David mentioned, Shannon and Eschbach are operational.

As the new facilities came online, we realigned our spending on property planned equipment with capacity utilization and maintenance requirements, which helped to reduce capital expenditures in the quarter.

Cash outlays associated with the investing activities during the quarter include $2.9 million for acquired intellectual property, another $14.7 million for certain international distributor acquisitions and $66.4 million in certificates of deposit with maturities greater than three months.

I will turn now to our guidance for 2010.

In our earnings release this morning, we announced that the Company expects full year revenues to increase between 3% to 5% in constant currency when compared to 2009.

At this time, assuming currency rates remain at year end 2009 levels, we anticipate foreign currency translation will increase our reported 2010 revenues by an estimated 1%.

Therefore, on a reported basis, our revenues are projected to be in a range of 4% to 6% above 2009 results.

Given the expected pacing, and our new product launches we anticipate sales growth in 2010 on a constant currency basis to be lower in the first half than in the second half.

In the second half of 2009, we saw encouraging signs that orthopedic procedure volumes in certain markets were recovering.

Our market assumptions coming out of the fourth quarter are that in 2010, knee and hip procedures will grow in mid single digits within the Americas and Asia Pacific markets and remain flat to slightly positive in the Europe, Middle East and Africa markets.

On the matter of pricing, we ended the year about where we thought we would, with worldwide pricing, slightly negative overall, down 0.6%.

In 2010, we will, of course, receive new reimbursement prices from MHLW in Japan which will take effect from April 1, 2010.

We anticipate modest price pressures in other markets such as the US.

On bounce, we expect another year of moderate price erosions of minus 1% to minus 2%.

We also anticipate offsetting negative price with positive mix contribution from new products.

Assuming currency rates remain at year end 2009 levels, we expect our gross margin ratio to be approximately 75%.

This takes into account the higher cost inventory we carry into 2010, as well as some foreign currency headwind partially offset by lower anticipated excess and obsolete inventory charges in 2010.

We expect the gross margin ratio to be slightly lower in the first half of 2010, as compared to the second half of the year.

We expect to continue making investments in R&D in the range of 5% to 6% of sales.

SG&A is expected to be approximately 41% of sales for the full year as we restore leverage from revenue growth, offset in part by sales and marking investments in support of new product launches.

Operating margin is expected to be in a range of 28% to 29% for the year.

The interest expense and other line of our P&L is expected to be unfavorable year-over-year due to the $1 billion notes offering we completed in the fourth quarter of 2009.

The impact of this expense on our EPS will be more than offset to the additional shares we purchased with a portion of the proceeds from the notes offering.

We anticipate a 2010 full year tax rate of approximately 27%, and slightly above our final rate for 2009, given the relative growth expectations among the different tax jurisdictions.

We anticipate the diluted weighted average shares outstanding for 2010 to be between 203 million and 204 million shares.

To arrive at our GAAP earnings per share, you should subtract projected acquisition integration and other costs of approximately $20 million pretax or approximately $0.07 per share.

Turning to cash flow, we anticipate total capital expenditures for the year to be in the range of $320 million to $340 million.

Instrument capital in 2010 is expected to be in a range of $170 million to $180 million.

Traditional PP&E is expected to be in the range of $150 million to $160 million, reflecting the cash outlays necessary to complete new product-related investments and normal replacement of older machinery and equipment for 2010.

Our first priority for use of free cash flow remains external development when and if the right opportunities arrive, if technology, products or businesses that strategically align with our focus, or musculoskeletal health.

Our guidance assumes that we will utilize for share repurchased the $211 million remaining under the approved program that expires at the end of 2010.

The free cash flow in excess of $211 million is assumed to be held in cash and cash equivalents.

Estimated depreciation and amortization expense for the year is in a range of $350 million to $360 million.

2010 full year adjusted diluted earnings per share are projected to be in the range of $4.15 to $4.35.

Finally, please note that our guidance does not include any impact from a potential medical device industry tax as part of US healthcare reform, potential acquisitions or other unforeseen events.

David, I will turn the call back over to you.

Thank you, Jim.

We closed 2009 and are beginning 2010 with a great deal of optimism and enthusiasm.

The foundation we put in place over the past couple of years, both operationally and from a product standpoint has positioned us well for 2010 and beyond.

Our focus now is on execution and capitalizing on our opportunities.

In 2010, we look forward to competing, to providing excellent solutions for our customers, and to improving patient outcomes through innovation.

And now I'd like to ask Kerri to begin the Q&A portion of our call.

(Operator Instructions) Your first question comes from the line of Bob Hopkins of Banc of America/Merrill Lynch.

Hi, good morning.

Thank you.

Can you hear me?

Good morning, Bob.

Yes.

Hey, good morning.

So just to add all of that guidance you gave in terms some of market rate of growth for hips and knees -- you guys are expecting essentially mid single digit growth for the market from a revenue perspective in 2010, is that right?

That's right.

Okay.

And then on the pricing side away from what will go on in Japan, would you characterize, what you just laid out for -- on pricing as essentially the same as what you have been seeing or a little worse?

In Japan specifically, I would characterize it as the same as we have seen in prior periods.

Yes, these adjustments take place every two years, and typically for --

I'm sorry, I meant outside of Japan.

I apologize.

Okay.

Outside of Japan, more of what we have seen, yes, that's correct.

So not -- really not materially different from what have you been seeing?

That's correct.

That's correct.

And then very -- two very quick follow-ups, on -- do you think you can grow your spine business in 2010?

I think that we'll make progress as the year continues.

I think that, obviously we are starting off in a bit of a hole, but I think as we exit the year, we should be back on a growth track that's consistent with market, Bob.

So overall, somewhere close to flat, is that -- just trying to get a sense for what you think.

We would expect to do a bit better than flat and exit the year at market growth rates.

Okay.

And then finally from me, just on gross margins, which has been a point of a lot of discussion in terms of the progress that you have made on inventories, does that make you feel better about the pressure on margins -- gross margins -- in 2010, as a result of the inventory issues or you still think it will take the full year to work through inventories?

Well, I would tell that you we have a pretty good handle on -- how it's going to impact on 2010, and it's certainly going to be more of a head wind in the first half of the year.

We get into the back half of the year and we have the opportunity to see some leverage on gross margin as we work our way through the higher cost inventory.

And do you think that gross margins for the full year, therefore, will be down any more than 100 basis points relative to what they were in 2009?

The gross -- the expectation for the year is that gross margin will be approximately 75%.

All right?

Okay.

Great.

Thanks so much.

Sure.

Your next question comes from the line of Adam Feinstein of Barclays Capital.

All right.

Thank you, good morning, everyone.

Good morning, Adam.

Just one quick housekeeping question here.

Could you just break out the pricing relative to the volume for hips and knees?

You went through some numbers and I just didn't catch that.

Sure.

Pricing on knees on a consolidated basis was in the quarter was down 0.7%, and on hips down 0.8%.

All right.

And in the quarter, Asia was very strong, as you called out, and Europe continues to be very weak -- or weak.

So I just wanted to get you to talk a little bit about the dynamics there.

I think we spent most of the time focusing on the US market, so just wanted to get some clarity in terms of what's going on in Asia leading to the strong growth in the recon business and at the same time just updated perspective in terms of what's going on in Europe.

Yes.

I would tell you that our performance across the different geographies is very much in line with what's happening within those markets.

The impact -- the weakness in the economy really hit in Europe, in the second half of the year, where it hit much earlier in the US and it hit earlier in the Asia Pacific region.

So I think we are seeing the recovery in procedure rates more quickly in the US and in Asia Pacific, and from our perspective, it's lagging somewhat in Europe.

So we see that the market as being flat to slightly positive in Europe, and our results are very much in line with that.

And then just what about the Asia piece there?

Any -- anything going on there outside of -- you talked about the Japanese reimbursement, but outside of that, what are some of the trends there?

I think what we are seeing in Asia again is the market procedure is recovering with the Asia Pacific markets and specifically in Japan which is a big market for us.

But also in Australia which is another fairly sizable market for us within that region.

Okay.

Thank you very much.

You're welcome.

Your next question comes from the line of Mike Weinstein of JPMorgan.

Thank you.

Good morning, guys.

Good morning, Mike.

Good morning.

Let me start with the fourth quarter.

I think a fair number of people would be surprised that we didn't see a bigger pick up in your hip and knee businesses given that the delta in your comps from the third quarter to fourth quarter -- as we look at what happened in 2008, with the erosion in the business.

I think most of us were expecting that as we went in 2009 from the third quarter fourth quarter that we might see a bigger organic uptick in US, and [OUS] in hips and knees and it looks specifically like we didn't see that and I wanted to get your thoughts on why we didn't see a bigger bounce in the organic numbers.

Well, we've seen a pretty consistent sequential improvement as 2009 progressed, Mike, and in those businesses and the recon business in general.

Stepping up from a minus -- let's say a minus 1%, minus 2% to 2.3%, to 3.5% from Q1 through Q4.

So sequential improvement on a steady basis throughout the year.

I think when you start to dissect our reconstructive business, as we've talked about extensively in the past, we've had some product gaps on the hip side.

So all of the efforts that took place in 2008, and continued on through 2009, communication and getting over some of the disruptions, getting the medical education and training back up and running, obviously are having a positive impact across the reconstructive business, but more rapidly, in the case of knees than hips.

With those fourth quarter product clearances, we would expect to see that same improvement as 2010 gets going here.

So I would tell you that what we saw in the way of improvement is consistent with our expectations, and we believe sets us up quite well for a lot of progress in 2010 in a successful year.

If we just take a look at hips -- if we look at hips in the third quarter of '08 increased 5% reported, 1% constant currency and then fourth quarter was a 7% decline reported, a 3% decline constant currency.

But, the organic performance third quarter was flat '09 and the fourth quarter was flat.

That doesn't surprise you that you didn't see more of an uptick this quarter?

No, I think the progress that we are making in some of those markets is a bit offset by -- as Jim was pointing out, a lagging downturn in the European market, particularly in hips in that same time period.

So I think that that accounts for some of the shortfall relative to what you were looking for.

Yes, and were there particular geographies, that particular countries in Europe that shut down spending in December that you want to highlight?

Well, I would tell you that the larger markets -- we have significant market share in those developed countries in Europe.

Those primary markets slowed down and they slowed down primarily in hips -- more profoundly in hips than in knees.

So the ones with centralized health care systems are where you are seeing a more profound instance of that slowdown.

The other markets that are emerging can maintain a better growth trajectory through that time period.

So, we would hope that that would flatten out and begin to improve just as we saw in the other two geographic segments as 2010 progresses.

Okay.

And then, Jim, just a question for you.

If you are looking at your margin commentary for 2010, you are modeling gross margins down 100 basis points and you are modeling the increase in your R&D spend.

Your operating leverage is going to have to come from your SG&A line and you guided to about 100 basis points of improvement.

Can you help us get comfortable with that in terms of how you get there and what the drivers are?

Thanks.

Sure.

There are -- first of all, as we restored growth to the top line, that certainly provides us with the opportunity to drive leverage on SG&A and that really principally is what's contributing to the -- the step down of about 100 basis points because the SG&A spend on a nominal basis is expected to increase in 2010 as compared to 2009.

So it's really just the controlling the pace of growth in the fixed component of SG&A that's going to allow us to take it down as a percent of revenue, relative to 2009.

Great.

I will let some others jump in.

Thanks.

Thanks, Mike.

Your next question comes from the line of David Roman of Goldman Sachs.

Hi, guys, this is Kevin stepping in for Dave.

I just wanted to follow up on Bob's call -- question and ask you what gives you confidence that you can get spine back to the market growth rates?

Well, we, at this point, since we talked about a broad portfolio.

One of the things we wanted to achieve over the course of the last three or four years was to get not only our own internal development pipeline going but to augment that so that we had a truly competitive offering in the fusion side, which is the vast majority of that business.

We now have that.

We have a good pipeline through both what we have been working on prior to the Abbott acquisition, and the development projects we picked up through the Abbott acquisition, and then a much, much broader distribution channel globally to push those products through.

So we'll get past this disruption and some of the dis-synergies and obviously there's going to be a bit of ongoing head wind depending on what happens with the regulatory path on Dynesys, but as we work through those issues we have a solid foundation to our spine business and it's going to come back to straight forward execution.

So we are quite confident that as this year progresses, you will see us making good head wind in that regard.

Okay.

And as part of your pipeline Pathfinder II, how much would that contribute to your growth in 2010.

Yes, Pathfinder II is an important part of that equation.

We feel that between Pathfinder II and the other MIS offerings that we, have we have a pretty comprehensive capability in that segment.

So that was something that was a targeted area for us going back to the Endius acquisition as well as the Abbott Spine acquisition.

It looks to be something that we are going to exploit going forward.

One last question.

I know that MMC and Continuum were launched in November.

We would have expected to see better numbers in hips given the excitement going into the launch and historically how products have affected numbers.

Is there something about the current environment that would make that launch process a little slower?

Not at all from our perspective.

These are big systems.

The build for those systems is extensive.

The deployment of instruments is very extensive.

The training and education of the surgeons and the sales force is all an important aspect of that launch, and you can only do so much pre-planning for that in advance of the FDA clearance.

So, we would expect to see no benefit from that launch in 2009, and only benefit as 2010 progresses.

So, January, February, March, all you are going to do is really begin to feed the market with those instrument deployments and you will start to find traction, primarily in the second half of this year.

But, we think it should be significant once it gets rolling.

I will also just reiterate that the feedback that we are getting from the field and important surgeons that are getting exposed to those offerings is very, very positive at this point.

Your next question comes from the line of Bruce Nudell of UBS.

Good morning.

It's actually [Mike Duncan] for Bruce.

I think you mentioned in the quarter that there was some European strength in trauma.

I was wondering what caused the positive results there and could you contrast that with what appeared to be some European weakness in hips and knees.

Yes, on the trauma side we had opportunities that we were successful at taking advantage of on the tender side.

So that drove a significant amount of growth for our trauma business throughout 2009.

Obviously that anniversaries out.

There will be other tender offerings but that particular one anniversaries out at this particular point in time.

As this year progresses we expect to have a much broader base of growth on that trauma business that will coincide with the continued launching of the different nails within the Zimmer natural nail line for the various anatomical sites.

Okay.

And then -- so you are projecting volume weakness in Europe.

What specifically needs to change there to change the trajectory of volume growth?

And do you expect that to happen in the back half of 2010 or is it just too difficult to forecast that right now?

It is difficult to forecast that right now.

I think that if you take as indications of what might happen in the European market place, what did happen in the second half of 2009, for both the Americas and the Asia Pacific regions, one at least would have a reasonable basis to believe that there could be some improvement as the year progresses.

But I do think that people talk a lot about the supply side.

We think that there's a demand side element, just as there was in Americas and Asia Pacific in the sense of if people aren't comfortable with their position, financially, if they are not comfortable with their position as far as employment goes that oftentimes is going to affect their decision making and lead to some deferment of these procedures.

But at the end of the day, there aren't substitute solutions, again, and just as we saw things pick up in the latter part of 2009 in Americas and Asia Pacific we believe at some point things will stabilize enough to where those procedures will come back into the system.

Great.

Thank you.

You're welcome.

Your next question comes from the line of Derrick Sung of Sanford Bernstein.

Hi, good morning.

Good morning.

In your market forecast for 2010 of mid single digit growth in the US, what are your assumptions for the pent-up demand that you have talked about that you think will eventually work its way back into the market place?

Do you expect that -- is that included in your numbers or is that upside to your mid single digit growth numbers?

Well, I think that -- as we have said consistently in the past that any pent-up demand is just going to bleed back into the system and lead to improvement in those procedure rates, as opposed to in our view leading to some type of an extraordinary bullous coming through the system.

I think we will gradually work back towards normalized procedure rates as opposed to a significant bullous that pushes a quarter or a couple of quarters and then drops back off.

And what, in your view, do you see normalized procedure rates being as?

Is that mid single digit growth moving forward?

Yes, that's right.

Okay.

Great.

In Europe, why is it that you are seeing -- and it looks like this is the case across all of the companies, that we're seeing this additional weakness in hips versus knees, whereas here in the US, we actually saw the opposite because knees are generally considered more elective, I think, here in the US.

Yes, I think there are historical reasons for that, Derrick.

The knee market in Europe is somewhat under penetrated relative to the US.

Knees were perhaps less well accepted up until the past couple of years.

And you've had some very significant advances in knee designs getting introduced in markets around the globe over the past couple of years.

So when we see the slowdown, I think it's just given the fact that that knee market was somewhat under penetrated to start with.

It has -- it's less profound, as David said on the knee side than it is on the hip side.

Okay.

And then going back to your guidance for growth of hips and knees and your sales numbers, what are your assumptions for your share positioning in 2010?

Do you assume that your share stays flat or that you gain some share?

We would look to stabilize the share in the first instance and then begin to work towards picking up share.

Obviously it will cycle a little bit differently in those different franchises but we are further along quite apparently by the fourth quarter results in knees than we are in hips.

On the other hand, as these new cup systems get launched, we believe that that rate should accelerate nicely in the second half of this year.

Okay.

And then just lastly on those -- on that new cup system, what's the penetration or mix that you would expect from your MMC cup and can you also remind us what the total metal on metal category is within the overall market, what percent of mix metal/metal makes up for the total hip market?

I've -- Derrick seen estimates 20% to 25%, I think it's quite a bit higher than that for some of our competitors but, if it's 20% to 25% our penetration within our portfolio, given some of the challenges that we've had within that challenges that we've had within that particular subcategory, it's 5% or less.

So there's fairly significant opportunity there for us.

Okay.

Thank you.

You're welcome.

Your next question comes from the line of Kristen Stewart of Credit Suisse.

It's actually Rob [Wesmeski] filling in for Kristen.

Can you break out price mix and volumes across regions as you have done in the past?

I think we did provide price if you go back to the prepared remarks, you -- we talked about pricing being down in the Americas and the Pacific and up in Europe for the quarter.

Can you break out volume and mix separately this quarter?

We -- the best way to get that would be -- well certainly -- if you look at the data that's provided in the release and just subtract out the pricing data that we provided in our prepared remarks would be the easiest way to get that, rather than me having to do this the math here on this call.

Okay.

And then for the acquisition and integration charges, is that still mostly related to the Abbott Spine deal?

It's -- those charges are related to both the Abbott Spine deal and any -- the distributor acquisitions that we did over the course of 2009, and it would include charges as well to some degree related to the realignment actions that we took in the second quarter of this year.

Okay.

And lastly, with 510k pathway reform looming does that change the way you look at R&D in the future.

It's something that we are obviously following carefully, Rob.

I think that one has to believe that 510k pathway is going to get tightened up and that the processes are going to be rigorous.

I don't subscribe to the theory that the 510k pathway is going to go away as a consequence of what's being considered within the FDA now.

I think it's a risk-based system that's worked well historically.

No system is without -- no system is without any fault at all, and no system is perfect, but I think it is a system that's worked well and I think it's the only practical way that we are going to be able to get technologies introduced into the market place in a time line that's going to be consistent with the population's expectations here in the US.

So I do think that it will remain.

I think that there will be some adjustments, but nothing that would fundamentally change how we think about research and development within our sector.

All right.

Thanks, guys.

You're welcome.

(Operator Instructions) Your next question comes from the line of Joanne Wuensch of BMO Capital Markets.

Thank you for taking my question.

I'm going to take a look at your EPS range for next year.

It's a bit wide, not out of the market wide, but a bit.

What makes you move towards the bottom of that range and what makes you move towards the top of it?

Joanne, this is Jim.

It really would be strictly what's happening on the top line.

So if the top line were trending towards the low end of the range we provided -- 3% constant currency growth -- that's what would drive us to the low end of the earnings range and the same can be said about the high end of the earnings range being linked to the high end of our top line range of 5% constant currency growth.

So the expense management should be fairly consistent throughout the year?

That's correct.

Okay.

Gross margins, I understand the transition into next year.

How do you think about longer term gross margins for the Company?

Do we rebound back into the 77% type range?

Well, I would tell you all other things being equal, if we just focused on the head wind we have going certainly into the first half of next year, that we talked about specifically related to having the manufacturing network over the course of this year operating at -- below optimal levels.

There is opportunity, as you get beyond 2010 to see improvement in gross margin, certainly, and we would expect as we restore -- particularly as we restore growth to the top line, a lot of this will depend on the pace of that topline growth is to how quickly -- we can get back to having lower unit costs, and higher gross margins, but there certainly is opportunity there beyond 2010.

Okay.

And just one final question.

Can you give us an update of how full and the demand is for your training programs for your new products at this stage?

Thank you.

You're welcome, Joanne.

The training and education efforts, I would say, exited 2009 at a full clip and what we would expect to maintain in 2010 and going forward.

We had talked at one point about our objective in 2009 of training in excess of 20,000 surgeons and clinicians during the year.

We exceeded that objective in 2009.

The courses are being very well received and the early signs directly responsive to your question -- early signs for the courses relating to new products is a lot of interest and high demand in that category.

Thank you.

You're welcome.

Your next question comes from the line of Rick Wise of Leerink Swann.

Hi, this is Rich in for Rick.

Just a quick question on the new products that you have in the hip franchise.

Are -- the MMC and the Continuum, are these really -- should we think of these as being able to help you gain market share through 2010 primarily through mix?

Maybe just talk a little bit about how these will position you, perhaps, with some accounts where people may have been sitting on the sidelines as a result of product gaps in these areas.

How should we think about this?

Is this more winning new accounts?

Are you just primarily driving share through mix?

You should think about it really in all three categories.

Let me speak a little bit about that.

First and foremost, these are systems that we truly believe are differentiated.

Let's talk for a moment about the Continuum Cup.

There's interoperable flexibility with choice of liner and bearing surface for the surgeon.

It is the industry leading in-growth technology with Trabecular Metals.

So that's a great setup for us.

That's an opportunity for to us do everything that you described, including taking market share.

The metal on metal side, as Jim was describing, we are underpenetrated in that subset of the market and have been historically.

This is a first rate cup.

It's going to perform well for us in that category, so especially in circumstances where we may have maintained a relationship with the surgeon and are using our products and they like our stems but they are looking for a metal on metal solution consistent with their own preferences, we think this MMC cup is going to serve us well in those circumstances.

So, whether it's expanding an existing relationship and potentially taking someone from one bearing surface to another that provides mix opportunity, picking up that case that we were missing because we didn't have the cup that they were looking for, or taking market share principally, I think with that Continuum Cup, we think that this is -- these are going to be game changers relative to our performance in that sector.

Great.

Thanks.

That's helpful.

And just one other follow-up.

You have also talked about some of the newer products that were slow to start to get going in 2008 -- that with new doctor training initiatives should taken to pick up steam.

How much more runway is there for those new products or is it a focus really going to be mostly on the new hips and those are more normalizing as far as their penetration and growth potential?

Thanks.

There is runway, and that's a good point, Rich.

Let's stick to the hip sector.

We've had good uptake with the connective technology.

We've had good uptake with the Fitmore bone conserving stem.

I think what's limited the growth of those technologies has been the gaps that we had on the Acetabular Cup side which are going to get resolved, as these sets roll out.

So I think there's more runway for those previously introduced technologies.

Your next question comes from the line of Tao Levy of Deutsche Bank.

Thank you.

Good morning.

I have a question on the pricing dynamics that you talked about.

If I look at the fourth quarter, it seemed like things actually stabilized a little bit versus what we had seen over the last couple of quarters, but what you are saying for 2010 is a little bit more of a -- acceleration in the declines.

I think negative 1% to negative 2%.

Is that primarily Japan related?

Well, Japan certainly has an impact.

And to the extent that at least over the last three quarters, our results reflect like for like, you know, pricing in what is a pretty significant market for us as we get into the second quarter of next year, yes, that's going to have an impact on what is getting reported out.

We talked about the pricing pressures that we are experiencing, that that is in the US and that is something that we expect is going to continue.

I think we have done an effective job of managing that.

We'll continue to focus a lot of effort on managing that as we have this year and really selling the value proposition that our products and our services have at a hospital level.

There is a bit of pressure, although we have been able to offset it in some markets in Europe.

Over the course of this year, that's been offset by some other markets where we've seen some price -- actual price appreciation in Europe.

So I think on balance, as we said, we just -- we feel it's appropriate that we remain a bit cautious, on the pricing outlook and that leads us to the minus 1% to minus 2% that we are guiding to.

And specifically and sorry if I missed it but what's the assumption for Europe for next year?

Is that up again a little bit?

Well, we didn't give specific guidance by geographic region.

But what I've -- our expectations are reflected in that guidance that we provided that on a consolidated basis, our pricing would be down -- could be down minus 1% to minus 2%.

And just lastly, the other expense line, what should we assume for that for the full year next year with the debt and other stuff that flows through that line?

Yes, I would look at the fourth quarter of this year and annualize that.

I think that gives you a good indication of what you can expect that to look like in 2010.

Great.

Thank you.

You're welcome.

Your next question comes from the line of Matt Miksic of Piper Jaffray.

Hi, this is Matt.

Can you hear me?

Yes, Matt.

Yes we can hear you.

Sorry about that.

I had you on mute.

A couple of questions on some of your smaller businesses, if I could.

In dental, I think your comment, David, was that you are performing in line with the market, but just to push a little on that, it seems like what we are hearing from some of the other competitors and maybe it's just shifting mix or new product launches, but, some of the survey work we have done confirms this that maybe the franchise is going just a tad behind the market, potentially losing some share in the downturn.

Do you agree with that characterization?

Are there any weak spots in dental that you think that you need to fill in order to grow with or better than the market as these rates recover?

Yes, I don't disagree with that characterization, if you are looking back over the course of the last several quarters.

I think that we are exiting 2009 in a range that's close to what the market is doing from the best of our ability and, of course, we have less visibility to those smaller businesses, Matt, just based upon our market share.

But it's not a market that's been growing over the course of 2009 quite obviously and it's clearly has been the market that's been hit the hardest by the economic recession, because of the form of payment.

Okay.

And to the part about -- is there anything that you feel you need to add there?

Well, we have an active R&D effort there, both on the internal and external development side.

I think that some things that we have targeted are going to make a difference.

So, yes, as is always the case.

But I don't think that there are any severe product gaps that exist within that business right now.

A quick one on trauma and then I have one follow-up on one of your new knee products.

So the trauma market, again I apologize if I missed this, but update on the new nailing system.

Any color on when you think trends in that market might improve?

As far as our performance, Matt?

The market and then your performance relative to the market.

Yes, I think it's a market that in the scheme of what has happened over the last year and a half has held up quite well.

Our growth driver is obviously rounding out our portfolio there with the Zimmer natural nails.

So the product launches have begun for the different anatomical sites.

We are at different stages right now.

Moving into this year, I would tell you that in the first and second quarters, we have substantial milestones that we intend to achieve both at developer release stages and then full blown releases of nails and then we look to essentially round out the rest of that system in the second half of the year.

So second half of the year, finish with the femoral nail options and then get after the humeral nail and that's the order of priorities.

It's really -- tibia, we are well along.

The cephalomedullary nail we are about midway and then we'll look to create the antegrade and retrograde femoral nails and finish out that project with the prioritized humeral nails.

So leaving the year with a full system out and then the -- about the market, any sense of when we might see a turn there?

Well, I don't see that that is a market that has declined all that dramatically.

Okay.

I don't -- I will tell you that I don't think what is going on externally with that market is a significant driver for our performance right now.

I think it's a matter of us getting the nail out and then executing well on the sales and the marketing side.

Got it.

And then last, just as I mentioned on the new products, it would be helpful if you could give us an update on how we should think about the ramp, both in terms of production volumes flow through your P&L, as well as the instrument rollout training, and ultimately our revenue impact that we'll see reflected in your results.

Maybe if you could -- obviously you don't give quarterly guidance -- but just a sense of what the pacing looks like for that, David and Jim.

Yes, Matt.

Without going into a whole lot of detail, I would tell you that the plan has us investing in a pretty significant way over the first half of the year in instrument and inventory deployments.

So they'll -- the instrument sets will be going out in large numbers right on up through June of 2010.

And as we think about those sets getting issued out to the field, the field sales force getting trained, the surgeon training and education programs that we'll have up and running and responding to the needs for surgeon training and education -- it really, won't -- don't expect to see a real significant impact on the top line until we get into the second half of the year.

Okay.

And -- and in terms of the P&L impact, you are loading up the inventory in the front half.

Is it fair to think, in addition to just the adjustment in your core lines, your existing product lines, that, the new products will have more of an impact in the Q4 and into next year.

Is that fair?

Yes.

As I pointed out in my prepared remarks, the -- there is an expectation that the head wind we have on gross margin will have clearly more of an impact in the first half than it will in the second half.

We begin to work our way out of that in the second half of the year.

Great.

Thank you for taking the questions.

Thanks.

Your next question comes from the line of Raj Denhoy of Jefferies & Company.

Thanks, good morning.

Good morning.

I wonder if I could ask just a little bit more on the spine business.

I think you mentioned that there was -- I think you mentioned three things, what I caught as far as explaining the really poor performance there and I think you mentioned it was some growing reimbursement challenges, some competitive challenges -- actually, I guess four, some Abbott integration issues and also Dynesys having some challenges here in the US.

When you look at those various factors what do you think the biggest hit to you guys in spine is?

Well, first and the last of those I think are the same issue.

When we spoke about reimbursement, Raj, we were really talking about that in the context of Dynesys.

Okay.

And so that's really the answer to your question, is the Dynesys franchise.

It was a principal driver for the legacy Zimmer spine business' growth, and as the reimbursement challenges mounted and obviously the first step to resolving those is a broader claim on that products which we had been pursuing, were dealt a setback in November but are continuing on a path to try to resolve that favorably for the business.

Then we are in a position to ultimately push that franchise forward.

We believe in the technology.

It's a technology that's been out for an extensive period of time.

There are tens of thousands of successful procedures that have been conducted so we do believe that it needs to be part of the offering going forward but as a principal growth driver and then all of a sudden, that business gets cut down substantially, there really wasn't anything at that particular point in time that was going to back fill it rapidly.

So that will stabilize one way or another, and we will get on with executing everything that we need to on the sales and marketing side with this broader portfolio through a broader distribution channel.

So, again, we liked the market space a lot.

We think that we've achieved a lot since 2003, when we picked up only the beginnings of a spine business and we're going to stay the course and we'll make progress in 2010.

Can you remind us how much of that spine business is Dynesys and primarily here in the US where we are seeing most of the problems.

I don't think we have broke than out.

I will tell you that it's a significant portion of the US spine business and it's a significant portion and the principal driver for the decline of the business that we experienced as the quarters progressed in 2009.

Okay.

A broader question on spine.

With your results we now have a number of large player results.

It looks like everyone saw a step down here in the fourth quarter in growth and spine.

Obviously you have your issues with Dynesys.

Are you seeing anything broader in that market -- either reimbursements increasing or we are starting to see some patients defer procedures here or really what caused this dramatic fourth quarter slowdown?

Well, I think that what caused it for Zimmer are those specific circumstances that we just discussed.

And with our market share, it's difficult for us to extrapolate out and say that there's something broader going on within the market.

I think that maybe a third or so of the market has reported out at this point in time for fourth quarter.

So that's as good a visibility as we have beyond our round numbers, 5% market share within that space.

So I just don't feel comfortable speculating as to what might be going on with the broader market, based upon our market position for you, Raj.

If we knew anything and could provide insights, we would, but I don't think that we're the best one to respond to that question at this stage in our development.

No, that's fair enough.

And then just one last one, just broadly on margins.

Obviously you are going to see something in -- I guess you gave guidance of 28% to 29% on the operating margin lines here in 2010, and, it seems like the performance is going to be largely kept in check by what happens on the gross margin lines.

When you look broadly speaking out several years, you used to be a low 30% margin Company.

Do you think that those operating margins are achievable for you as a Company or has something changed dramatically that will keep you from doing that.

Yes, I would say that I think there are significant opportunities as you get beyond 2010.

We talked, about the head winds on gross margin that really have a lot to do with the issues around running the manufacturing network at below optimal levels as we restore growth to the top line, we will get through that.

And believe that we have opportunity as well over time to bring down our SG&A spending as percentage of revenue.

We continue to have controls over the fix components of that SG&A spend.

Again, as we restore growth to the topline, we would expect that we would be able to keep the pace of that growth in the fixed component of SG&A at a lower level than our top line growth.

So we do believe that there are opportunities to see continued improvement in the operating profit margin over time.

Fair enough.

Thank you.

In the interest of everyone's time, let's take one more caller.

Your final question comes from the line of David Lewis of Morgan Stanley.

Good morning, it's Andrew sitting in for David.

A quick question first on spine.

Can you talk about the contribution you had from Abbott Spine in the quarter and then a couple of follow-ups.

Yes.

We had talked about the Abbott Spine business in the past three quarters contributing somewhere in the order of $20 million in revenue and you can assume that the fourth quarter was no different than the first three quarters of the year.

All right.

If we think about longer term, do you feel that there's a recovery in your end markets, whether it's 2010 or 2011, as volumes pick up, do you think that we can see any improvement in price or do you think that the negative 1% to negative 2% range is an appropriate way to think about it longer term?

I think, it's more difficult to look longer term at pricing with what's going on now.

There's a fair amount of potential change in the air, but I will tell you that looking forward, I don't think that what we're seeing would lead one to believe that it's going to get materially worse in that regard.

I do think that comparative effectiveness and the cost pressures within these systems are going to keep price on the table in those discussions but at the end of the day, the companies that truly innovate and provide better patient solutions and at the same time start to address the cost challenges that these systems are under, and I think that we can do that.

We just need to broaden our thinking about what innovation looks like.

I think, that those companies are going to be quite successful and at least have opportunities to offset any downward pressure on price with mix opportunities through the innovative process and rolling out those solutions.

And just finally, to the extent that you see any revenue improvement in the back half of the year that would exceed your expectations, how are you thinking about your investment or reinvesting any of that gains, whether it's in R&D, or SG&A or the teaching and training?

Yes, I think, that principally, it would be likely that we would accelerate some of our priorities on the research and the development side.

That's an area that we would like to over time expand.

We think that we have good opportunities to create value and provide solutions to address unmet clinical needs in the musculoskeletal health space.

So that's really where you would see us ramping up our spending going forward.

Great.

Thank you.

Okay.

Thank you.

And thanks again, everyone, for joining us today and for your continued interest in Zimmer.

We look forward to speaking to you on our first quarter conference call at 8 AM on April 22nd, 2010.

I will now turn the call back to you, Kerri.

This concludes today's conference.

Thank you for your participation.

You may now disconnect.