Zimmer Biomet Holdings Inc (ZBH) 2015 Q2 法說會逐字稿

Good morning.

I would like to turn the call over to Bob Marshall, Vice President of Investor Relations and Treasurer.

Mr. Marshall, you may begin your call.

Thank you, Vince.

Good morning, and welcome to Zimmer Biomet's second-quarter 2015 earnings conference call.

I'm here with our CEO, Dave Dvorak; our CFO, Dan Florin; and Jim Crines, retiring Executive Vice President and CFO.

This morning, we'll be discussing the recently-announced closure of our combination with Biomet.

We will also briefly cover Zimmer's second-quarter 2015 financial results.

Additionally, the Company has posted a slide presentation highlighting reported changes and selected combined historical financials on our Investor Relations website.

Before we start, I would like to remind you that our discussions during this call will include forward-looking statements.

Actual results may differ materially from those indicated by forward-looking statements due to a variety of risks and uncertainties.

Please refer to our SEC filings for a detailed discussions of these risks and uncertainties.

Also, the discussion on this call will include certain non-GAAP financial measures.

Reconciliations of these measures to the most directly-comparable GAAP financial measures are included within the earnings release, or found on our website at investor.zimmerbiomet.com.

With that, I'll now turn the call over to Jim.

Thank you, Bob.

I will make some brief remarks on second-quarter results and then turn the call over to David and Dan.

With respect to our sales commentary for the Zimmer legacy product categories, I will provide quarter over prior-year quarter changes, absent acquired Biomet revenue, and adjusted to reflect fewer selling days for certain international markets in the current-year quarter.

Pro forma comparisons to the prior-year quarter can be found on the Investor Relations section of our corporate website.

Turning now to our results, Zimmer experienced the price decline of 2% in the quarter, which is consistent with our expectations coming into the year.

Total revenues for the second quarter were $1.168 billion, a 5.7% constant-currency increase compared to the second quarter of 2014.

Net currency impact for the quarter decreased revenues by 7% or $83 million.

Acquired revenue from the Biomet transaction contributed 5% or $60 million in the quarter.

Therefore, Zimmer stand-alone sales increased 0.7% or 1.2% on a like-billing-day basis in the quarter.

During the quarter, excluding acquired revenue and on a billing-day adjusted basis, the Company grew Knees at 2.7%.

Hips and Extremities each decreased 0.6%.

Dental revenues grew 0.7%.

Trauma, as well as surgical and other sales were flat, and Spine sales increased 5%.

Geographic sales, also absent acquired Biomet revenue and on a billing-day adjusted basis were as follows: Americas, plus 0.5%.

Europe, Middle East, and Africa grew 1%.

And Asia-Pacific increased 3.7%.

Our adjusted gross-profit margin was 76.4% for the quarter.

A favorable geographic segment mix of revenues, together with foreign currency hedge gains and favorable year-over-year comparisons with regard to manufacturing variances were partially offset by the impact of negative price.

The company's R&D expense compared to the prior year increased 7.1% or $3.4 million on a reported basis to 4.4% of net sales.

Selling, general, and administrative expenses were $445.1 million in the second quarter, and at 38.1% of sales were 120 basis points above the prior year.

During the quarter, the Company reported certain non-recurring pretax expenses, including $465 million of charges relating to the Biomet merger, and $90 million of special items and certain claims.

Additionally, pretax amortization expense in the quarter was $34.9 million.

Adjusted second-quarter 2015 figures in the earnings release exclude the impact of these charges.

Adjusted operating profit in the quarter amounted to $395.3 million.

At 33.8%, our adjusted operating profit-to-sales ratio was 160 basis points higher than the prior-year second quarter.

This marks the eighth quarter in a row with operating margin improvement.

Adjusted net-interest expense for the quarter amounted to $18.7 million, which was unfavorable when compared to the prior-year quarter, due to the inclusion of acquisition-related debt and adjusted earnings following the Biomet merger.

Our adjusted effective tax rate for the quarter was 25.9%, and was 20 basis points favorable, when compared to prior year.

Adjusted net earnings were $278.7 million for the second quarter, an increase of 2.8% compared to the prior year.

Adjusted diluted earnings per share increased 0.6% to $1.59 on a 175.6 million average outstanding diluted shares.

The Company recorded a loss per share of $0.91 on a GAAP or reported basis for the quarter.

The loss is due principally to expenses incurred during the quarter in connection with the Biomet merger.

This compares to the prior-year, second-quarter reported EPS of $1.03.

Operating cash flow for the quarter amounted to $186.8 million, a decrease of 26.5% from $254.1 million in the second quarter of 2014.

Cash outflows in the second quarter related to the merger transaction amounted to $108 million.

Depreciation and amortization expense for the second quarter amounted to $99.6 million.

Free cash flow in the second quarter was $114.8 million, $44.7 million lower than the second quarter of 2014, with defined free cash flow as operating cash flow less cash outlays for instruments and property, plant, and equipment.

Capital expenditures for the quarter totaled $72 million, including $41.6 million for instruments, and $30.4 million for property, plant and equipment.

As expected, as of June 30, our gross debt was $12.05 billion or 4.1 times our trailing 12-month adjusted EBITDA, and our net-leverage ratio, including cash-on-hand and short-term investments, was 3.5 times adjusted trailing 12-month EBITDA.

As this is my final Investor call, I just want to say that it has been a pleasure to work with all of you and be part of the dedicated and highly talented team of people here at the Company for the last 15 years.

As I step out of this role, I look forward with excitement at the value creation opportunities this new team will be pursuing, with the same tenacity that drove past accomplishments at both companies.

David, I'll now turn the call over to you.

Well, thanks for your many contributions to the Company over the years, Jim.

This morning, I'll focus my comments on some of the key value creation opportunities presented by our landmark combination with Biomet.

In short, the synergies inherent in this merger will accelerate the execution of our primary commercial- and innovation-growth strategies, while at the same time, enabling the Company to generate extremely attractive financial results.

By virtue of possessing a significantly broadened and truly comprehensive portfolio of innovative musculoskeletal solutions, Zimmer Biomet is in an excellent position to accelerate top-line growth over the course of our global integration, principally through a host of cross-selling opportunities between our two legacy portfolios.

Our integration teams have already achieved key milestones in support of these commercial opportunities, including the implementation of critical sales infrastructure, and the completion of initial-product trainings, which have supported our ability to begin deploying specialized commercial teams in key product categories and geographies.

We expect to substantially complete our commercial integration by the end of this year, including the appointment of just over 2,000 specialized sales representatives, concentrating in non-large, joint-sales opportunities, a number that we aim to further expand significantly throughout this decade.

Our vision is to build the most highly specialized and effective musculoskeletal commercial team in the industry.

Consistent with that goal, we have selected sales leaders with proven track records and designed compensation plans that reward growth.

We expect to begin realizing the benefits of our integrated sales channel, as well as these commercial opportunities, in the form of sequentially-accelerating revenue growth as we exit 2015 and progress through 2016.

As a leader in the nearly $50 billion musculoskeletal industry, Zimmer Biomet's portfolio of solutions offers unparalleled anatomical coverage, as well as reach across the full continuum of care, from minimally invasive and biologic joint-preservation technologies, to partial, total, revision, and salvage artheroplasty systems.

I would like to take this opportunity to highlight a number of the complementary portfolio offerings that our sales organization will be aggressively leveraging.

Our market-leading Knee business continues to be led by Persona, the personalized knee system, and our clinically-trusted Vanguard and NexGen knee systems.

In addition, our impressive knee lineup includes the Vanguard Select and Vanguard 360 revision system.

Finally, our portfolio is further differentiated by our bicruciate-preserving artheroplasty options, including the clinically-proven Oxford partial knee, and our new Vanguard XP total knee system.

In Hips, our offerings address the full range of patient anatomy and surgical philosophies.

Our Taperloc Complete Microplasty stem, and Avenir Hip System, for example, meet the rising demand for minimally-invasive techniques that incorporate the anterior supine surgical approach.

Our portfolio is also complemented by the Arcos Femoral Revision System, and our multi-bearing, premium-cup options, featuring the G7 and Continuum Acetabular Systems.

Within our newly-formed SET product category we see our Sports-Medicine business as a particularly attractive source of quick wins across our sales channel.

Joining our Early Intervention Gel-One and subchondroplasty treatments, the JuggerKnot Soft Anchor System marks our expansion into this fast-growing market.

We're bullish on the union of our complementary extremities portfolios, highlighted by the cross-selling opportunities represented by the comprehensive Total Shoulder System, which commands a wide clinical audience in a rapidly growing market, and the Nexel Total Elbow.

Our growth prospects in the Foot and Ankle category are also extremely promising, including the Trabecular Metal Total Ankle, the Phoenix Ankle Arthrodesis Nail System, and the A.L.P.

S Total Foot Plating System.

Backed by a broad portfolio of solutions, we'll bring heightened focus to this attractive market.

For our focused trauma sales teams, immediate opportunities include the ePAK Single- Use Delivery System, featuring the DDR CrossLock distal radius plate, as well as the Cable-Ready Cable Grip System.

Our surgical business also stands to benefit from the enhanced focus and sales force specialization we're leveraging to drive our broadened clinical portfolio.

Zimmer Biomet also positions a diversified dental business, offering critical scale to address the faster-growing, value-market segment, with our line of PI-branded offerings.

In addition to our range of Encode custom abutments, and a market-leading regenerative portfolio.

Turning to our Spine category, as a combined Company, we're building on a successful cadence of commercial releases from 2014.

This global business offers a differentiated pipeline and a comprehensive portfolio that address minimally-invasive procedures with our Pathfinder NXP Pedicle Screw System, as well as lateral access surgeries, with the Timberline Lateral Fusion System.

Finally, we're very excited about our innovative and rapidly-expanding craniomaxillofacial and thoracic businesses, as well as our opportunities to benefit from sales channel and expertise within the bone healing business.

In support of our longer-term growth targets, we will use our scale to enhance the differentiation of our innovation pipeline, and to accelerate the pace of our future commercial introductions.

With research and development resources that are nearly 80% greater than our standalone capability, we will aggressively pursue innovations to address unmet needs and create new-market adjacencies to expand our leadership in musculoskeletal healthcare.

With that, I'll turn it over to Dan, who will this continue this discussion in greater detail, as well as review our guidance.

Dan?

Thank you, David.

Good morning, everyone.

It's a pleasure to be here with you today.

I'm looking forward to serving our new Company in the role of Chief Financial Officer, and building upon the successes achieved by my predecessor, Jim Crines.

First of all, I want to thank Jim for all of his support during this transition period, and I wish him the very best in his future endeavors.

Today, I'm going to walk you through a brief summary of the synergies and accretions associated with our merger, followed by my comments on the prevailing market and pricing conditions, and our 2015 guidance.

As incoming CFO, I'm fully committed to maintaining the value-creation principles which have made Zimmer and Biomet leaders in musculoskeletal healthcare, and which have formed the pillars to this deal, namely growth through innovation and outstanding service, operational excellence, and prudent capital deployment.

Accelerating our top-line growth, as David has outlined, in combination with execution on our cost synergies and operational-excellence plans, will result in leveraged earnings growth and increased cash flows to both reinvest in growth initiatives and return capital to stockholders.

Our fully-staffed integration-management teams are now hard at work, driving a disciplined global plan, encompassing over 400 distinct projects across our commercial, functional, and business units, with more than 7,000 relevant process milestones.

Our new management team has significant merger integration experience, and we are leveraging many of the operating disciplines, playbooks and governance structures from Zimmer's successful acquisition of Centerpulse.

Turning now to deal synergies, we continue to project net-annual pre-tax operating earning synergies of $135 million in the first year, and $350 million by year three, post close.

Recall that these net synergies are comprised of cost savings, somewhat offset by the EBIT impact of the product-line divestitures, and estimated revenue dissynergies net of cross-selling benefits.

We expect to realize the bulk of the cost synergies through the elimination of SG&A redundancies, as well as strategic sourcing and shared-services initiatives, optimization of our manufacturing and distribution network, and deployment of lean principles across the enterprise.

Initial savings will be heavily weighted to the SG&A line on the P&L.

We continue to expect adjusted earnings per share accretion in the range of $0.95 to $1.05 over the first 12 months post closing, with approximately one-third of this number to be realized in 2015.

As Bob noted at the beginning of the call, we have posted a presentation on our Investor Relations website that provides an explanation of our reporting changes, as well as selected combined pro-forma, historical-sales results and financials.

Within those schedules, we have provided a view of the past six quarters of constant-currency revenue growth based on our new product categories and geographic segments, which will be utilized beginning with our third-quarter 2015 results.

We've also included a reconciliation of Zimmer Biomet combined net-sales to combined net sales less the divestitures that were completed in order to finalize our merger.

Lastly, we have provided a combined historical-earnings statement from net-sales to adjusted EBIT, including the adjusted margin analysis through the first quarter of 2015.

We hope you find the pro-forma information useful for your modeling.

As you update your models, you'll note that there is a new sales category called SET, comprised of surgical, sports medicine, extremities, foot and ankle, and trauma, with joint preservation technologies included in sports medicine.

This product category comprises approximately $12 billion of the nearly $50 billion musculoskeletal market, and is estimated to grow in the mid-single-digit range over the next few years.

With the combination, the SET category now represents approximately 20% of our revenue base, and we're investing in growth drivers such as specialized sales-forces and innovative products that compete aggressively in this space.

As you'll see in the pro-forma revenue schedules, for the first three quarters of 2014, Zimmer Biomet's combined quarterly-revenue growth within the 3% to nearly 5% range, which we believe reflects at or above market performance during this period.

Beginning in the fourth quarter of 2014 and continuing into 2015, combined-growth rates began to decelerate to the 2% to 3% range, and eventually flat performance in Q2.

We believe this reflects an absence of investment and offensive measures by our sales channels during the pendency period of the merger closing.

With the merger now closed, and our channel-integration plans being executed, coupled with the strong portfolio and cross-sell opportunities that David outlined, we are optimistic that we will get back to at- or above-market growth rates, as we progress through 2016.

Turning to market and pricing conditions, we have seen ongoing but stable price pressure for the last several quarters.

We believe the growth outlook for the global Knee and Hip markets will remain consistent throughout 2015, in the low, single-digit range.

Procedural demand, in our view, continues to be driven primarily by favorable demographics and growing utilization of musculoskeletal healthcare in emerging markets and underpenetrated developed markets.

Moving now to our guidance, we are reaffirming our full-year 2015 pro-forma revenue guidance of a constant-currency growth rate of between 1.5% and 2%.

As noted, the pro-forma adjustments reflect the inclusion of Biomet revenues, and the removal of revenue from the divested product lines for the comparable post-merger closing period in 2014.

The impact from currency for the full year is projected to decrease revenues by approximately 6%.

Therefore, reported revenue should be in a range of minus 4% to minus 4.5%, which in dollar terms, is between $6.015 billion and $6.05 billion.

We are also updating our full-year 2015 adjusted diluted earnings per share to be in a range of $6.65 to $6.80.

Previously, we had estimated full-year adjusted diluted earnings per share to be in a range of $6.60 and $6.80.

It is important to note that the fully-diluted average share-count that should be used for the full-year diluted EPS calculation is estimated at 190.5 million shares, which includes shares issued to complete the transaction, and does not assume any share repurchases.

I'll now provide some details on guidance for the second half of 2015.

We expect constant-currency, pro-forma revenue growth on a day-rate basis to be between 1% and 2%.

On an adjusted basis, for the second half of 2015, we expect our gross margin to be in the range of 75% to 75.5%.

We intend for our research and development expense to be the range of 4.5% to 5% of sales.

SG&A expense should be in a range of 38.5% to 39%, and adjusted net-interest expense is expected to be $185 million.

The adjusted effective tax rate is estimated to be between 26.5% and 27%.

The fully-diluted share-count for the second half is approximately 206.5 million shares.

Adjusted diluted earnings per share would be in a range of $3.45 and $3.60.

Combining this range with the first-half performance, and applying the full-year diluted share-count of 190.5 million shares, you arrive at our full-year guidance of $6.65 to $6.80.

For modeling purposes, please remember to reflect the expense-to-sales ratios and corresponding margins to account for the seasonality that occurs between the third and fourth quarters.

Third-quarter adjusted diluted earnings per share are projected to be in a range of $1.52 and $1.57.

Finally, I want to provide a few comments on full-year cash flow.

Cash flow from operations for the year is expected to be between $650 million and $700 million, which includes $430 million of costs related to the merger transaction, and approximately $250 million of costs to realize synergies.

We expect to spend approximately $500 million on instruments and property, plant and equipment in 2015, inclusive of approximately $60 million of integration-related items.

Free cash flow, which we define as operating cash flow less cash outlays for instruments and PP&E is estimated to be between $150 million and $200 million.

Please note that our guidance does not include any impact from potential business development activities, or other unforeseen events.

David, I'll now turn the call back over to you.

Thanks, Dan.

Zimmer Biomet now stands as one global leader, and with our increased skill in musculoskeletal diversification, we're able to anticipate and address the needs of the evolving global healthcare landscape.

Our strategic vision continues to focus on delivering a compelling value proposition for patients, healthcare providers, and our stockholders.

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

(Operator Instructions)

Joanne Wuensch, BMO Capital Markets.

Thank you very much for taking my question.

Since you're in the early stages of the integration, could you please walk us through a little bit of what you're experiencing, that will help you, or give you confidence that your growth rate will reaccelerate as we enter 2016?

Sure, Joanne.

I think the advantage that we have had of the long pendency period is that we were able to develop extremely detailed methodical plans.

So when day one rolled around, our teams were extraordinarily well-prepared, and that includes the plans that Dan outlined with respect to the different work streams and milestones that we're tracking.

We have a lot of details and capability to track and respond to anything that was not embedded in the plans, but with respect to the acceleration opportunities, the cross sell is one of our primary areas of focus, and that opportunity starts with putting the right sales talent in place.

I will tell you that was a very pleasant surprise as we went through the experience of drawing out the best from both organizations.

We have extraordinarily talented commercial leaders that had been appointed, and those individuals are putting their management teams and then sales rep appointments together.

All of that work is expected to be substantially complete by the end of this year, and we're well on our way.

Also we have been able to put in place all of the infrastructure necessary to facilitate the cross-sell opportunities.

We had some opportunities to pre-build inventory in key product categories, to pre-train sales reps in key product categories, and so this offense is starting to ramp up.

Clearly, that takes some time for the pipeline to rebuild, and the momentum will be restored, and we're expecting to see terrific progress to the balance of the year that's going to set us up nicely for 2016, to get after those opportunities.

As my follow-up, before I get to that, first I wanted to say, thank you, Jim, it's been a pleasure to work with you.

But the second question is, your guidance you called out, it doesn't include any potential business development.

Should we think of you, now that the deal has closed, as still looking, or in a pause mode until you fully incorporate it?

Thank you.

Let me just say thanks, Joanne.

As I said, I very much appreciate working with you and the rest of the analyst community, but I'll let Dan respond to the question on capital deployment.

Great.

Thanks Joanne, for the question.

Certainly, we continue to be very active evaluating business development activities.

We have a terrific business development organization, always looking for opportunities to drive growth, and we feel having leverage of about 4 times, as Jim described, is not an impediment to that.

We'll continue to be disciplined in terms of capital allocation.

Zimmer has an excellent track record of being disciplined, and will continue to do so, as we progress.

But we'll continue to look for tuck-in opportunities, M&A activities.

We believe strongly the cash flow generation of the combined enterprise provides us the opportunity to do that while we look to delever the balance sheet, grow EBITDA, and reinvest in growth initiatives organically as well.

Thank you.

Bob Hopkins, Bank of America Merrill Lynch.

Thanks, and good morning, and also good luck to Jim in your future endeavors.

Thanks for taking the questions.

I've got two.

I want to focus on revenues.

Obviously, one of the reasons why the stock has lagged a little bit is concern about revenue growth.

The first question is, can you talk a little bit about why you had to lower revenue growth guidance of the time of the deal close, and do you think that the level of dissynergies that you originally thought about and talked about, might now be higher than you originally thought?

That's my first question.

Thank you.

Sure Bob, I think it was clear that the pendency period was more extended than we originally anticipated, and naturally with the lack of clarity during that prolonged period of 14 months, you're going to lose some of that offensive momentum.

All of that is very addressable.

The plans that we have in place, with the appointments of the leadership, as I said, the infrastructural implementation and cascading that through the field organization puts us in a great place to restore that momentum, as we work through the balance of the year.

So I think it's more just the extended pendency period rather than anything at all fundamental changing.

That's very temporary in the scheme of the underlying strategy for this combination, and we're quite confident that's going to get addressed.

So nothing fundamental whatsoever has changed by virtue of that.

So your thoughts on dissynergies are not different than they were originally?

Not at all.

Okay.

And secondly I just wanted to ask you to try to be very clear.

I want to be clear about what you are saying about 2016.

I think you said that you expect accelerating growth over the course of the year, but when do you think you can get back to market levels of revenue growth, and what specifically will drive the improved growth outlook as you look into 2016, especially when you consider things like US knees right now still struggling in the negative 3% to 4% territories?

I just want to be as specific as we can about what the drivers are in 2016 to improve growth?

Just to clarify, to start with, knees are at or slightly above market on the legacy Zimmer side, and I think that holds true for the legacy Biomet side, also.

The hip category requires some attention, but I think with the complementary aspects of the portfolios, we are going to be able to bring that attention to it, and put that on a better course, Bob.

But if you think about the dynamics that are going to go into what we generate by way of top line growth, you have the circumstances that you described coming into the closing, the opportunities that I'm outlining this morning to reaccelerate the top line growth, and these are businesses that going back just to the point of announcement through the majority of 2014 together, were generating 3% to 5% growth.

So that quite clearly is an opportunity for these businesses.

That's on a standalone basis.

If you put these portfolios together, pick the best of the best in sales leaders, train up the sales reps for those opportunities, leverage the relationships that exist at the surgeon level for cross-selling, and that's going to be extraordinarily powerful.

And that's not a temporary synergy by virtue of the combination.

That's going to be a sustainable synergy, and we'll talk a little bit more, I suspect, before we're done with the Q&A about the product portfolio and the go-forward pipeline opportunities.

If we look at the restoration of that momentum, as I said, speed is important, but getting it right in the field integration, the plans that we have allow us to do both.

By the end of this year, we're going to have the right sales team set up and at a full clip going into 2016.

So then what has to happen is that momentum has to be restored and the cross-sell opportunities have to be ramping up to a point where they're offsetting any of the natural fallout as far as dissynergies go, on the top line.

That's going to occur sequentially, we are going to see improvement throughout 2016.

So, the comment that I would make to you, by way of answer, is it's tough at this point to pinpoint the particular month, but you are going to see sequential improvement throughout 2016, and we're confident there we're going to get back to or even above market growth rates as that year progresses.

Great.

Thank you.

Mike Weinstein, JPMorgan.

Jim, obviously, we've known each other a long time, so it's been fantastic working with you.

I do want to start just on the combination of the sales organizations.

And David, we had talked prior to the close about getting some visibility on your plans for combining the distributors and sales reps, and what that might start to look like.

So can you, A, start to maybe talk a little bit about that today, in terms of where you are in that process?

And B, can you talk about retention?

Have you lost any notable distributors in the US, or what you rep retention looks like.

And C, what you're doing financially to try to get people to stay?

Thanks.

Sure, Mike.

To start with, an overview of the structure.

This is an organization that will be led by the best of the best.

If one looks at the legacy leaders across the globe, I think a lot of times these discussions end up becoming focused immediately on United States market.

But across the globe, we're selecting the best territory managers, the best country managers, the best sales managers supporting those level leaders.

And then, as we have said from the beginning, retaining the sales rep positions.

This is a really powerful organization, in the thousands of numbers, and numbers at the sales rep level, and it provides us with an extraordinary opportunity to develop more specialized sales forces in the non-large joint areas, which is something that we'll begin implementing through this integration process, and continue to grow in the years to come.

So we are well on our way, Mike.

Those leadership positions obviously at the executive level and the next couple of levels down within the organization, were all appointed pre-close, and well before pre-close, so they were able to put their plans together next level down, and all of those execution plans are cascading down to the rep level as we speak.

As I said, for the amount of work to be done and the size of that channel, to do that in the coming several months and be locked down going into 2016 was a big task, but it's the right priority for the organization.

And with those appointments is going to come certainty and clarity, so that people are going to be very offensive-minded begin to start to take advantage of the cross-sell opportunities that exist, both at the product and at the surgeon level.

The compensation opportunities are terrific.

There isn't a better bag in the industry, and irrespective of product category area of focus, these sales reps are going to have wonderful opportunities, not only with the product category bag that exists at this point, but the pipeline that exists, and then the opportunities for greater differentiation on the R&D side, because the scale that we have across the entire portfolio.

So people are excited about it.

The tone is very positive.

And I would also tell you that these are leaders that have in many cases 10, 20, 30 years of experience, so these transitions are not new to them.

They have a lot of experience in just managing the channel.

I'd also tell you Mike, that when you look at these leaders that are chosen, on average in the United States for example, the selected leaders have a compounded annual growth rate that's hundreds of basis points above those that are not selected at that level of the organization, and so this is the best of the best.

They know how to put these organizations together and run that offense, and we're going to be hitting our stride in short order.

So let me circle back, David.

Can you just tell us, the picture you're setting, first off, is one where you're consolidating sales management and then leaving the reps and distributors in place.

Can you talk about retention at this point, and what that looks like, and what you expect that to look like?

And how long you're financial incentivizing people to stick around, so that we can get a sense of what the window of risk looks like?

Yes.

I think that the retention has been excellent.

The attrition rates have been quite consistent with historic levels.

It may tick up single-digit percentage points as we go through this process, and this is what we would expect to continue to see, but I don't it going beyond that.

And the leadership appointments down to the management level in the field will be taking place very early on, and in many instances, have already been accomplished in different territories, and will be done at the sales rep level as these months progress.

So I don't anticipate any significant uptick in attrition rates, Mike.

Thank you, David.

I'll let some others jump in.

Matt Taylor, Barclays Capital.

This is actually Young Li in for Matt Taylor.

Thanks for taking our questions.

The first question is, I guess actually maybe on M&A, it's a question on robotics.

So one of your competitors reported pretty good robot sales this quarter, and there's interest in medical robots among other companies in med tech.

I just wonder if you talk about your level of interest in this area?

We're very interested in the underlying premise to those technologies, and we been at it for a long time with both internal and external development efforts in that regard.

Our portfolio of patient specific instruments, including legacy Biomet Signature technology, pre-operative planning systems and templating systems, our iASSIST technology, our eLIBRA technology, are all consistent with the goal of making these procedures as reproducible, and heightening the outcomes in a very cost effective way.

That's been the mission that we've been on for many years, and we've made terrific progress and feel good about where our program is going to take us in that regard.

To the extent that technologies can achieve those same objectives, preferably that are smaller, faster, cheaper, preferably ones that integrate into the natural workflow for the surgeon, and drive OR efficiencies, as opposed to effecting some of those key areas in a negative way, then we'd be interested in any other technologies.

So we're going to continue to be very open-minded, but we like the portfolio of technologies that we've been developing, and what we have underway to continue to progress in that area.

Okay.

Thanks.

And regarding the CMS proposal to bundle hip and knee reimbursements, it's been talked about a lot before, but can you just remind us what your expectations are in terms of impact in price, and if you're working with payors to maybe mitigate some of that impact?

I don't see that as having any significant impact on price.

I think that the pricing environment that we have been operating in has all of the drivers embedded in it, that are the underlying reasons for that proposal.

I think that the proposal, in many ways, as well as the delivery modifications that are embedded within the ACA in general, are consistent with what we all have to be mindful of.

Again, we're trying to develop deeper partnerships with our customers, the surgeons and providers, to bring about a better patient outcome in a cost-efficient way, and that more expansive end-to-end definition that's embedded within that proposal is the right concept.

There are elements of that proposal that should be modified.

We've got to make sure that we're not stinting healthcare, especially when the delivery of healthcare and access, especially when you look at measurement period on the back end of 90 days, these are procedures that are oftentimes appropriately measured in years as far as success rates.

We should be careful about how we set those programs up, but the concept of ensuring that the care is coordinated in a patient-centric way and is mindful of the overall cost is an appropriate one, from our perspective.

The innovations that we have underway and the opportunities that we have with our field service organizations to contribute positively to that endeavor are immense, and it's a big part of our strategy going forward.

So I think it's in alignment with how we ought to be thinking about improving patient care in general, and I don't yet having any impact of significance on the pricing environment

Great.

That's very helpful.

Thank you.

David Lewis, Morgan Stanley.

Good morning.

Just one historical question for Dave or Dan.

The stated objective when you did the deal for the balance sheet was debt repayment, and now we have a situation where what I'm hearing is your conviction in long-term deal accretion is actually higher post initial announcement.

Dave, you mentioned this morning that the dissynergy investments were unchanged, yet obviously, as you know, the stock is lower.

So I guess the question is for Dan or for David, why does aggressive share repurchase now not make more sense than aggressive debt repayment?

Dave, this is Dan.

As we progress through the rest of 2015 and continue to gain traction on integration and confidence in the execution of that integration, which we do have full confidence in, we'll continue to evaluate capital deployment.

So certainly, to drive the integration and the synergies we need to spend some cash to do that.

There's a nice return on that investment.

Per my earlier comments, you look back at a track record of Zimmer in terms of capital allocation, it's a terrific track record.

Returning nearly 70% of free cash flow to stockholders in the form of dividends and share repurchases.

So going forward, we're focused on executing the synergy program, accelerating the top line growth, driving improvements in our free cash flow yields back to historical levels.

We see that type of opportunity.

With that enhanced cash flow generation, we'll continue to look at what makes sense on a go-forward basis.

We'll go through a detailed operating plan for 2016, look at cash needs, and weigh those trade-offs.

So it's certainly something that we'll continue to evaluate.

We'll also over time look at a deliberate attempt to delever the balance sheet.

We have been able through this inter-company loan transaction that the tax team executed, has opened up that pipeline to OUS cash, so that's been a critical initiative that's behind us.

The access to that cash begins late this year, so at that point in time, we'll have cash available to make those decisions.

And then over time, as we build free cash flow, have access to that OUS cash, I think that gives us a lot of flexibility to look at both organic growth capital, if you will, external opportunities, and then return of capital to stockholders.

That's very helpful Dan.

The other second question that I have is revenue trends as you described have obviously lagged, but margins have trended much better.

So where are you seeing primary success that's driving that underlying performance, and as you go through the integration, how confident are you that we see a continuation of these up margin trends?

Thank you.

Sure.

Certainly as we progress through the integration plans and we start to realize those synergies, keep in mind it will be a ramp up of those synergies over time.

As you see in our second-quarter performance, the gross margin rate is benefiting from the gains on the foreign exchange contracts, and keep in mind that as we bring Biomet into the fold and start layering the Biomet cash flows into the Zimmer hedging program, that will take time to gain traction.

So in the back half of 2015, while the hedge contracts will continue to contribute in a relatively consistent basis from a dollar standpoint, as we bring the Biomet revenues into that as a percentage of sales, the contribution of the FX gains will be lower, so that does put some pressure, if you will, on the second-half gross margin rate relative to the first half, and that's embedded in the guidance that I just provided.

But the underlying ability to drive operating margin improvement is real, by virtue of the synergy plans that we have.

And importantly, the mix benefits of premium technologies on the Biomet side, as we continue to drive growth there.

So the cross-sell opportunities, a number of those cross sell opportunities are focused in the premium technologies that the Biomet portfolio brings to bear day one.

Thank you very much.

Larry Biegelsen, Wells Fargo Securities.

It's actually Craig on for Larry.

Thanks for taking the questions.

I have a couple of questions on EPS.

And just starting with 2016 EPS, I think on the last call, you mentioned that we could see 15% to 20% growth on 2015 EPS.

So firstly, are you still comfortable with that range?

And second, is the accelerating top line growth, that potentially lead to upside to 2016 EPS growth?

Craig, this is Dan.

Certainly based upon everything that I have seen and analyzed to date, including the details of our synergy and integration program, I am confident that we can deliver earnings per share within that range, a range of $6.65 to $6.80.

I'm confident in that regard.

With respect to the top line, the opportunities that David has outlined in terms of the acceleration of growth through 2016 is embedded within that assumption.

So yes, at this point in time, we are confident in the ability to deliver that EPS growth in 2016.

Okay.

Thanks.

And then just as a quick follow-up, when you think about EPS beyond 2016, EPS growth beyond 2016, I know in the last call, I think Jim mentioned that the 8% to 10% management goal for EPS growth.

And I wanted to ask, looking out in 2017, 2018 are the synergy -- are the synergies necessary to hit that 8% to 10% growth, or could the synergies from the deal be incremental to the 8% to 10%?

Sure.

So later this year, first with respect to 2016, we'll be providing official guidance in January for 2016.

So our stated goal of confidence in that EPS growth is what we're shooting for.

Our operating plan will be geared towards the achievement of that.

And then in January, we'll give you the official guidance for 2016.

At the same time, in the upcoming months, the new management team will be going through the strategic planning process looking out beyond 2016, and certainly as we think about EPS opportunity at the combined enterprise of the 8% to 10% type range, we feel confident, based on what we know right now of the combined portfolio, that we can deliver in that range.

And as we go through the strategic planning process, we'll look for opportunities to exceed that.

But at this point in time, I'd say we're comfortable in that range, and as we talked about 2016 guidance in January, we can give you an update on our thinking longer-term.

Great.

Thanks for taking the questions.

David Roman, Goldman Sachs.

Thank you, and good morning, everybody.

I know there are a lot of questions on the deal, but I was hoping to ask a couple of questions on the underlying businesses.

Maybe you could, David or Dan, give us a little bit more color on what's going on in both the trauma and dental businesses.

And maybe trauma and extremities, more specifically, given that those are end markets that look to be growing quite a bit faster than the growth that you're generating right now.

And any factors that may be influencing the trends in your business, and any product launches that could be drivers of an uptick on a go-forward basis?

Sure I think that the trauma business, I think we have significant opportunities in that regard, David.

When you look at the complementary aspects of that portfolio, we immediately gravitate towards a couple of the key areas.

The distal radius product category is one that we have not had much of a presence in on the Zimmer side, historically.

The product offering is first-rate on the Biomet side.

The Cable-Ready system is strong on the Zimmer side.

That's a big cross-sell opportunity into that pipeline.

Also sales force specialization is going to be meaningful.

We've got a channel that historically has been more oriented toward the large joint side of the business, and we're going to be breaking out sales rep specialization to bring greater emphasis.

So you've got more emphasis at the sales rep level, a more comprehensive portfolio that puts us in a position to compete very effectively in level 1 trauma centers, where we haven't had as much of a presence historically, as well.

That's going to add up to a big opportunity to expand our market share.

So that's a good effort example of what this deal brings into these smaller business categories for us, where we had sub-scale businesses, and now are in a sweet spot, where we have critical mass, a broad portfolio, are in a very competitive position, and are very confident that we're going to be in a share gain mode.

And I would say the same thing about dental.

You're essentially doubling the size of those product categories by virtue of this combination.

And so our capability to do well at the premium as well as the value level within the dental market across the globe is greatly enhanced by this combination, and then you add some other areas, including the legacy Zimmer dental regenerative portfolio, which is an industry-leading portfolio that the legacy Biomet reps are going to be able to sell into.

So great opportunities in both, and I think you're going to start to see some of the benefits as we progress through 2016 in those categories.

That's helpful.

Thank you.

Then maybe a follow-up on one of your prepared comments.

I believe in your prepared remarks, you said that the opportunity to invest in innovation would increase by about 70%.

That sounds like just adding the Biomet R&D to the existing base Zimmer R&D.

But over time, are there opportunities to see leverage on that line, given that there might be some duplicative efforts within the two companies, and quote, R&D synergies, and are those included at all in the $350 million number?

The number was in that range, it was 80%.

And it is, the math that you describe, as far as the measure by dollars, that the capabilities are obviously diverse.

It's between these organizations.

So there's a positive impact in that regard.

There is opportunity to repurpose those resources, and from our perspective go after a more differentiated research and development portfolio, both with internal and external development, focused on the musculoskeletal space.

That's logical, relative to the portfolios that we're bringing together, and the need to continue to maintain the vitality of those go-forward systems, but to be able to invest in some higher risk, higher reward differentiated projects.

At the same time, they're going to be very directly in addressing the unmet needs and getting after some of the opportunities to improve care and address the cost challenges that the customers face.

So that's really exciting to us.

I would tell you that it is not an area where we are looking to pull down our spend, so it is indeed to be a targeted area for expense synergy.

If anything, I think we're going to see big opportunities and potentially to expand our commitment in the research and development areas in absolute dollar spend in the coming years.

Got it.

I appreciate all the perspective, and Jim, best of luck in your future endeavors.

Thank you.

Richard Newitter, Leerink Partners.

Thanks for taking the questions, and good luck to you, Jim.

Was hoping that you could talk a little bit more about the SET business.

I think that was something that you said was now 20% of your revenue base, that you see having potential to grow in the mid-single-digit range.

Just wondering if you would go over some of the opportunities there.

The faster-growing products or the product areas you're most excited about, and how long, you think?

Is that an area where you think you could maybe get acceleration faster than some of the other areas of your business, or is that the right way to think about it?

Thanks.

Sure.

We are extraordinarily excited about the opportunities within that subset of the business.

These are faster-growing markets, and as I was describing earlier, these are markets where you can generally characterize as being ones where we've had businesses that have had some skill challenges historically.

And those skill challenges create some headwinds, both in commitments that you can make it from an R&D spend as well as the sales force build out, medical training and education, other important ingredients to running these businesses successfully.

And to do that in a profitable way and a value-creating way from a stockholder perspective.

So they really validate a major premise to this combination in the first instance.

And I think you're going to see our performance in a direction that's consistent with that.

I would tell you that I think there are some big immediate opportunities in that cross-sell list, but those are consistent in the large joint areas, too.

So I don't think that they're differentiated in that regard.

Good examples and opportunities across every one of the product categories is figures just that SET bunch of businesses have that, have the advantage of getting to scale, have the advantage of enhance sales force specialization being built into our plans, and reinvestment in that regard.

And they're also operating in traditionally faster growing markets to begin with.

So when you add all that up, we see that 20% portion of our business being very augmentive, and an enhancer to our top line growth rates.

So that mid single digit growth rate is a short-term perspective, as to where we expect that business to get to.

I would tell you that our aspiration is to drive it much higher than that.

Thanks.

And maybe just one follow-up for Dan.

As you think about the sequential growth acceleration trajectory that you laid out for 2016, can you tell me what your implied assumption there on pricing trend is for the overhead?

Do you assume it doesn't get any worse than where we are today, or are you embedding some incremental cushion for more further erosion from where we stand today?

And do you still think you can do sequential growth acceleration moving through the year in that situation?

We've seen, as we discussed, a very stable rate of decline on pricing over the past three or four quarters.

Our assumption, as we look out to 2016 is consistent with that assumption, based on what we've seen.

So at this point in time, we're not assuming any break in trends from that perspective.

Vince, we have time for one additional question.

William Plovanic, Canaccord Genuity.

The first is, just to go back on distribution, what are you doing specifically with the overlapping territories at the rep level?

Are you retaining reps?

Are you repurposing them for extremities?

You've made a lot of comments in general, and I'm just wondering if we could get some specifics from you, and then I have a follow-up.

Thanks.

Just to reiterate, William, we're retaining reps.

There are too many opportunities by virtue of this combination from a product portfolio standpoint to be able to afford to lose good reps, and so we're retaining the reps, and we're looking to leverage their strengths and the product portfolio strengths in the best way possible.

That means what they've done well historically is what we would continue to want see them leverage, and areas where they've done less well, we're going to look to augment.

So there are going to be opportunities for enhanced specialization, as all of that is designated, but we're going to make intelligent decisions driven by the people that are closest to the facts and circumstances, that allow them to make informed judgments about that.

But the tone is very, very upbeat among the sales force.

They see the opportunity.

And I think fundamentally know that this isn't just a temporary opportunity on the front end, but rather, that we're able to build into the future and the pipeline and solutions that we're going to be able to deliver is going to be a differentiated set, and a comprehensive set.

So that bodes very well for the success that we are looking to have in those conversations, as we complete this integration by the end of the year, on the commercial side.

Okay, and just now that the merger is finally complete, are there any assets that you view as really not core to the combined company?

We see opportunities for all these assets to contribute to value creation, at this point in time.

And that doesn't mean that we're going to be overly rigid and cease to evaluate portfolio decisions going forward.

It's about value creation.

At this stage, our expectation is that all of these assets are going to contribute, and we're going to work real hard to help the leaders make those contributions.

And to the extent that view changes at some point in time, then we're going to make the decisions in the best interest of the stockholders that now we're really enthusiastic about the opportunities and synergies, by virtue of this portfolio coming together.

We think that there is a real strategic advantage to the musculoskeletal focus that we have from an R&D standpoint, from an operations standpoint, from a go-to-market strategy standpoint.

If anything, the evolving healthcare market is going to make that more important, and we think that we can be more impactful in helping shape those solutions going forward, by virtue of these assets.

And then Jim, just thanks for all of your support over the years.

I appreciate it.

Thank you.

Great.

So I'd like to thank everyone for joining the call today and for your continued interest and support for Zimmer Biomet.

We look forward to speaking on the third quarter conference call, which is scheduled for 8:00 AM on October 29 later on this year.

With that, I'll turn the call back to you, Vince.

Thank you, sir.

Ladies and gentlemen, thank you again for participating in today's conference call.

You may now disconnect.