Executives
Gary D. Henley - President and Chief Executive Officer
John K. Bakewell - Chief Financial Officer and Executive Vice President
Analysts
Taylor Harris - J.P. Morgan
Raj Denhoy - Thomas Weisel Partners
Matt Miksic - Piper Jaffray
Michael Matson - Wachovia Capital Markets
Glenn Navarro - RBC Capital Markets
William Plovanic - Canaccord Adams
Jeff Johnson - Robert W. Baird & Co.
Wright Medical Group, Inc. (WMGI) Q1 2009 Earnings Call April 27, 2009 4:30 PM ET
Operator
Good evening ladies and gentlemen and welcome to the first quarter 2009 Wright Medical Group Incorporated earnings results conference call. My name is Geri and I will be your coordinator for today. (Operator Instructions).
This conference may contain forward-looking statements as defined in the Federal Securities Laws. In fact, every statement made during the call except for those of historical fact will be forward-looking statements. Forward-looking statements reflect the current knowledge, assumptions, beliefs, estimates and expectations of our management. They also express our management’s current views of future performance, results, and trends. We caution you that actual results might defer materially from those described in these statements. Forward-looking statements are subject to a number of risks and uncertainties, including those discussed in our filings with the Securities and Exchange Commission. These SEC filings include our 10-K for 2008 and our subsequent 10-Qs for 2009. These risks and uncertainties could cause our actual results to materially differ from those described in the forward-looking statements. Although we believe each forward-looking statement is accurate, there can be no assurance that it ultimately will prove to be so. You should not view a forward-looking statement as a representation by us that the described results will be achieved. We caution you not to place undue reliance on any forward-looking statement. All forward-looking statements are made as of today’s date, and we assume no obligation to update any such statement after this date.
I would now like to turn the call over to Mr. Gary Henley, President and Chief Executive Officer.
Gary D. Henley
Thank you Geri, and good afternoon everyone, and welcome to our first quarter earnings call. I am pleased to share with you the details of our first quarter 2009 financial results, which reflect what we would judge as a good start to the year given the current operating climate. We delivered solid revenue growth, significant operating expense leverage, and net income results that exceeded our communicated range. While the year so far has given our industry plenty to deal with, we’ve had our share of successes. We’re pleased to be reporting global sales growth that is among our industry’s best again this quarter, with a relatively solid overall reconstructive joint growth rate and a continuation of truly outstanding growth within our extremities franchise.
With me on our call today is John Bakewell, our Executive Vice President and Chief Financial Officer. Together John and I will be discussing our first quarter results, the progress that we’ve been making in our business, and our latest outlook for the business going forward.
Before we begin I would like to note that we will be using a number of non-GAAP financial measures to describe our performance. Regarding that I will refer you to reconciliations that appear in the tables of today’s press release as well as on our website. Note further that our Form 8-K filed today provides a detailed narrative that describes our use of such measures. Please note that unless otherwise stated, all of today’s discussions regarding results of operations refer to our as adjusted results.
As we have done in the past calls, I’ll start today with a summary of our top and bottom line results and then move into a detailed review of our revenue performance. John will then address the other key line items that make up our financial performance and share with you our guidance outlook, both for Q2 as well as our latest views on the full year 2009. Together we will wrap up our prepared section of today’s calls with some business updates before we begin taking your questions.
So, let’s get started. Net sales for the first quarter 2009 totaled $120.9 million representing a 4% increase over net sales of $115.9 million in the first quarter of 2008, finishing within our previously communicated guidance range of $120.0 million to $123.0 million. Excluding the unfavorable impact of foreign currency on our international revenues, which totaled approximately $3.3 million, global net sales increased 7% during the first quarter. As I mentioned, we were particularly pleased by the performance of our extremities business which despite the current environment in orthopedics continued to excel during the quarter posting a global growth rate of 27% as reported and 30% in constant currency.
Although our Q1 revenue performance didn’t finish in the upper end of our guidance range, our bottom line results were nonetheless excellent versus our expectations. We achieved adjusted net income of $7.8 million or $0.20 per diluted share for the quarter, exceeding the upper end of our guidance range of $0.17 to $0.19.
Our expense control was very good during the quarter enabling us to produce operating expense leverage of 290 basis points over the prior year. We were quite pleased to see our business model demonstrate this degree of versatility during the quarter producing such a solid bottom line outcome.
At the same time we were delighted by our cash flow performance for the quarter as our initiatives to improve the company’s cash flow profile paid off very nicely in Q1. Free cash flow was a positive $5.5 million for the first quarter representing a sequential improvement of $32 million from the fourth quarter 2008. This progress so early in the year makes us feel very good about achieving our objective of producing positive cash flow for the full year 2009 which represents a year over year $80 million plus improvement.
Looking now to sales results in details; first geographically, we had a strong first quarter in the US. Domestically our US sales totaled $74.4 million during Q1 representing an industry leading increase of 11% over the prior year. As we noted for you during our February call, our first quarter had two fewer selling days than last year. This accounts for approximately 3% points of growth, and therefore on an average daily sales basis, our domestic sales increased by approximately 14% for the quarter.
During Q1 extremities continued to lead the way in the US with 44% complimented by our large joint reconstructive business and biologics lines which posted growth rates of 5% and 2% respectively.
Internationally we experienced some headwinds, both in currency and as anticipated in the stocking distributor portion of our business. International sales totaled $46.6 million, representing decline of 4% as reported and growth of 3% before the unfavorable impact of currency. Despite these headwinds we continued to see good growth in many of our direct markets, in particular in Japan. It is likely that we will experience pressures in our stocking distributor markets during Q2 similar to those we saw in this quarter. We also anticipate a recovery in the second half of 2009 after their inventory levels have adjusted and reorders are necessitated due to their end-user demand.
We continue to be pleased with the success of our acquired products with sales from products acquired during the past 12 months contributing 4% points to our Q1 domestic revenue growth rate and 2% to our global growth rate. This was driven principally by the performance of our INBONE Total Ankle acquisition. I am compelled to point out however that these acquired products brought with them essentially no pre-existing revenue base. Consequently while these products may have been acquired all the revenue we have generated with them in Q1 was produced with our own organic infrastructure.
Switching gears now, I’d like to discuss our sales on a product line basis. During the first quarter, our global hip sales totaled $41.9 million, increasing by 5% as reported and 8% in constant currency. Domestic hip growth totaled 8% during the quarter reflecting unit sales gains primarily in our Revision Hip Stems and our DYNASTY Acetabular Cup System. International hip growth totaled 3% as reported and 7% before currency. The success we have been experiencing in Japan with our large-diameter metal/metal hip systems was a significant contributor to our Q1 international hip growth.
Knee product sales totaled $30.4 million in Q1, a 1% increase as reported and a 3% increase over prior year before currency. Domestic knee sales in Q1 increased by 2% over the prior year supported by the continuing success of our ADVANCE stature specific components and our ADVANCE BIOFOAM Tibia Base. International knee sales decreased by 1% on an as reported basis and increased 5% in constant currency, driven by the growth of our Asian and Latin American markets.
During Q1 the growth rate for our US Ortho-Recon business, quite obviously decelerated as compared to Q4 ’08. Although a portion of that deceleration can be attributed to fewer selling days, there is no doubt that we did experience some softness in the second half of the first quarter which can be attributed to the current economic conditions impacting procedure volumes. To the extent that we have experienced the impact as an end-market slowdown, it appears to have affected our knee sales considerably more so than hips.
Our extremity business was purely the exceptional performer for us this quarter holding up very well thus far in these economic headwinds. Extremity sales totaled $25.9 million during the first quarter, increasing by 27% as reported and 30% before currency. Domestic extremities grew 34% during the quarter; that’s on top of the 55% growth rate comparable for Q1 of last year. Our international growth totaled 3% as reported and 17% before currency. Excluding acquisitions within the last 12 months, domestic extremities grew 17% in the first quarter, driven by the continued success to both new and core products within our CHARLOTTE line of foot and ankle products as well as the excellent performance in our DARCO product lines.
Our global biologic sales totaled $19.8 million during the first quarter representing a 4% decline over prior year as reported and a 3% decline on a constant currency basis. Domestic biologic sales increased 2% in Q1 with the main contributors being our PRO-DENSE injectable synthetic bone graft line and our CANCELLO-PURE wedges. In the first quarter international sales of our biologics products decreased by 29% as reported and 20% before currency, primarily due to reimbursement challenges we faced specific to the Turkish and Belgium markets.
In summary, we’re pleased with our bottom line performance for the first quarter and with the associated operating expense leverage that we achieved. At the same time while our Q1 revenue didn’t reach the levels we had established in our long-term objectives, we were pleased to report a sales growth performance that was among the best in our industry despite the headwinds associated with the global economy.
At this point I’d like to introduce John Bakewell, our Chief Financial Officer, to discuss additional financial details of the first quarter.
John K. Bakewell
Thanks Gary, and good afternoon to everyone on our call today. I will follow our usual conference call format and pick up where Gary left off by reviewing with you our P&L components below the revenue line that contributed to our first quarter results, and then I’ll discuss our current financial outlook for Q2 and the full year 2009.
As has been our practice in the past, today’s press release provides you with our P&L results in accordance with GAAP requirements and also includes tables which provide reconciliations of certain of our P&L components from an as reported GAAP basis to one that is adjusted to exclude the impact of those items noted, including the impact of restructuring charges related to those initiatives we previously announced to close our Toulon, France operations, non-cash stock based expenses, and charges relating to the ongoing US governmental inquiries. We recognize that many of you evaluate our performance on a basis that excludes non-cash stock-based expense as well as these other non-recurring items; so we’ve provide you with all the information necessary for you to model our P&L either excluding or including those items.
So, with that, let’s move into our discussion of our as adjusted results. I will begin with a review of our gross margin performance and from there work downward through the rest of our P&L.
Beginning with our Q1 gross margins, overall we achieved 68.8% for the quarter, which as we were expecting, is lower than the 72.4% posted in prior year Q1 and lower than what we were expecting for full year 2009. As we’ve discussed in previous calls, both unfavorable year-over-year currency exchange rates and the current period impact of commodity pricing variances experienced throughout 2008 are pressuring our gross margin during the first half of this year. As we move forward those pressures should ease to some degree in Q2 and to a greater degree in quarters 3 and 4 resulting in a 2009 gross margin performance somewhere in the mid-to-upper 71% range for the full year 2009, with the second quarter somewhat below that full year average and closer to 70%.
Turning to our operating expenses, on an as adjusted basis, total operating expense for the first quarter totaled $70.3 million or 58.1% of sales, compared to $70.7 million or 61% of sales for Q1 of last year; a 290-basis-point improvement and significantly better than our stated long-term objective of 100 to 150 basis points of leverage.
As for the line items making up our Q1 operating expenses, on an adjusted basis selling, general, and administrative expenses totaled $60.4 million or 50.0% of sales for the first quarter compared to Q1 ’08 SG&A expense of $61.9 million or 53.4%, a 340-basis-point improvement within SG&A. As adjusted, our R&D expenses totaled $8.5 million in Q1 or 7% of sales compared to $7.8 million or 6.7% of sales in Q1 of last year. Finally, amortization expense totaled approximately $1.3 million for the quarter compared to about $1.0 million in Q1 of ’08. Excluding any future acquisitions, you can expect quarterly amortization expense to remain at this level going forward.
To summarize our performance at the operating income level, our first quarter operating income as adjusted was $12.9 million or 10.7% of sales, down from $13.2 million or 11.4% of sales in Q1 of ’08, reflecting operating margin contraction of approximately 70 basis points overall as our sales performance combined with excellent operating expense leverage was offset by lower gross margins as a result of foreign currency headwinds and absorption of last year’s unfavorable commodity purchase price variance.
Below the operating income line, net interest expense totaled approximately $1.3 million for Q1, which was in line with our expectations. With approximately $149 million in cash and marketable securities on our balance sheet, we’re moderately sensitive to interest rate changes as we’ve explained in prior calls. We’ve continued to monitor our cash investments carefully and consequently our excess cash portfolio continues to consist almost entirely of US Treasury based assets. We anticipate net interest expense quarterly for 2009 of approximately $1.5 million. Given some of the safety and liquidity issues that still exist in today’s fixed income market, we feel that this is the correct approach for us. Positioned as we are today, we’re very comfortable with both the safety and the availability of our cash balances.
Moving to taxes, our Q1 effective tax rate as adjusted was approximately 35.5% for the quarter as compared to 38.5% in Q1 of 2008. The primary reason for our lower effective tax rate is the R&D credit which was not enforced in the first three quarters of 2008, but is for 2009. Going forward from here consistent with our December guidance, we will continue to anticipate an effective tax rate of approximately 37% throughout 2009.
To wrap up our P&L review, as Gary reviewed with us earlier, net income as adjusted totaled $7.8 million or $0.20 per diluted share for the first quarter of ’09. Although Q1 EPS declined by $0.03 due to some difficult comparables on FX, interest, and the impact of prior year commodity pricing, more importantly it was ahead of our expectations and positions us very well to deliver on our full year EPS target.
Briefly regarding share count, our first quarter per share results as adjusted are based on an adjusted diluted share number of 43.5 million for Q1 of this year and average diluted shares of 43.3 million for Q1 of last year. Going forward we expect that our average share count for full year 2009 will be approximately 44.7 million shares diluted, consistent with our previous guidance. For Q2 we anticipate an average share count of approximately 43.7 million shares diluted.
Before we get into our guidance review, let me point out that our cash and our balance sheet continues to remain very strong with combined cash and marketable securities balance totaling $149 million as of March 31. As Gary noted previously we were also very pleased with our cash flow performance this quarter as we were able to produce approximately $5.5 million of free cash flow while investing approximately $9.8 million in capital expenditures.
The final topic of my portion of today’s call is our current sales and earnings per share outlook for full year 2009 and for the second quarter. As started in today’s press release, we are reiterating our previously communicated full year as adjusted earnings per share outlook of $0.85 to $0.92 per share as well as our 2009 revenue outlook range of $500 million to $510 million. Our 2009 revenue guidance reflects an expectation for improving growth rates in the latter part of the year with the range being influenced mainly by the degree to which our international stocking distributor markets begin to recover as well as how domestic reconstructive joint procedure rates behave as we move through the year.
Recognizing there is a degree of variability associated with those factors we note that at this time we are most comfortable with the lower half of our revenue outlook range of $500 million to $510 million; that is to say up to the midpoint which is $505 million.
On the earnings line, as we demonstrated in Q1 careful attention to spending levels can enable solid performance on the bottom line even when revenue growth is not at the upper end of the given outlook range. Accordingly despite our bias towards the lower end of our revenue range, we’re still quite comfortable with our full range of adjusted EPS guidance. As we move through the year we intend to watch our discretionary spending levels very carefully and will moderate them as required. Altogether we continue to anticipate adjusted operating income growth of approximately 8% to 16% for 2009 and another year of operating leverage despite the anticipated unfavorable impact of currency rate pressures on operating margins throughout the year.
As for our guidance regarding the second quarter of 2009, I’d like to recap with you what we’ve stated in the outlook section included in today’s press release. Our anticipated target for the second quarter of 2009 for net sales is in the range of $120.5 million to $123.5 million, representing the as-reported growth in the range of 2% to 4% and constant-currency growth of approximately 6% to 8% for the quarter, with adjusted EPS results ranging from $0.17 to $0.19 per diluted share. Please note that these targets for both the upcoming second quarter of 2009 and the full year 2009 exclude the effect of possible future acquisitions or other material future business developments, restructuring charges associated with our Toulon closure, acquisition related stuck-up, impact of non-cash stock-based expense, and special costs associated with our current US governmental inquiries.
For those of you who consider stock-based expense in you models, our estimated full year 2009 impact of expenses associated with SFAS 123R is in the range of approximately $0.22 to $0.24 per diluted share for the full year 2009 and $0.07 to $0.08 for the second quarter. Applying a $0.23 midrange estimate to our adjusted EPS outlook for 2009 implies an EPS outlook inclusive of stock-based expense of approximately $0.62 to $0.69 per diluted share for the full year. Second quarter EPS including stock-based expense would be $0.10 to $12.
With that I’ll conclude my financial review and I’ll turn our call back over to Gary for his additional comments.
Gary D. Henley
In closing, I would first like to say how pleased I am with our Q1 performance. The team here at Wright has done a great job of executing on our strategy and delivering outstanding results.
I would also like to build on some points that John just covered in his discussion of our 2009 guidance outlook. While we are currently in a challenging economic environment in a period where visibility is less than ideal, I’ll reassure you that as a business we are nonetheless committed to performing to the best that circumstances would allow. That means careful attention to expense levels, a focus on improving our cash flow profile as we move through the year, and also driving ourselves to the best possible revenue outcome growth. We’ve been working hard and will continue to do so throughout this challenging period.
Now I’d like to take a few moments discussing some of our significant developments in our business during this quarter. As you know, Q1 is typically a heavy product launch quarter for us as two of our key industry meetings Access and AAOS occur during the first quarter. In the foot and ankle product category we showcased our INBONE Total Ankle and ENDO-FUSE Intra-osseous Fusion System which were both acquired in Q2 of last year and several recent new products including our BIOFOAM Foot and Ankle Wedge System, our G-FORCE Tenodesis System, and the CHARLOTTE Lisfranc Reconstruction System, all tailored to the procedure-specific needs of the foot and ankle surgeon.
Additionally, in the foot and ankle space, we were pleased to announce this quarter the publication of a prospective controlled randomized multi-center study on the effectiveness of GRAFTJACKET in treating diabetic foot ulcers. The study found that patients treated with one application of GRAFTJACKET healed more quickly and were more likely to heal completely as compared to the standard of care. Specifically, this study found that patients treated with a single application of GRAFTJACKET were two times more likely to experience complete wound healing by 12 weeks versus the patients treated with the standard of care.
In the OrthoRecon space, we continue to promote what I believe is the best product portfolio in the industry. In early April we announced a key addition to that portfolio; PROPHECY preoperative navigation. The PROPHECY program will enable surgeons to utilize basic CT and MRI scan technology to plan precise implant placement and alignment before entering the OR. This plan results in the development of a patient-specific cutting guide that allows the unique curvature of the patient’s bone anatomy ensuring that the implant is positioned to match their specific anatomical shape. We believe PROPHECY can significantly increase the accuracy and reproducibility of total knee implants resulting in significant improvements for the patient in the mechanical function and longevity of his implant. Additionally both the surgeon and the hospital benefit as the surgeon is able to envision the surgery before the curves resulting in reduced OR time. PROPHECY represents a significant addition to our knee product portfolio as well as a potential platform for development into other areas of our implant business.
All in all Q1 was an excellent quarter for us, both financially and from a business building perspective. As we look forward, we’re pleased that despite the current impact to the global economy and the short-term uncertainties facing our industry, we’re able to continue to grow our business and maintain our current year earnings outlook. We feel confident in both the long-term prospects of the orthopedic market and in our ability to continue to compete effectively in that market as we continue to focus on innovation and ensuring that we’re positioned to capitalize on the longer-term opportunities of this business.
That concludes the prepared remarks section of today’s call. We are now ready to take your questions. So, I’ll turn this program back over to our moderator who will be coordinating yours questions.
Question-and-Answer Session
Operator
(Operator Instructions). Your first question comes from the line of Taylor Harris - J.P. Morgan.
Taylor Harris - J.P. Morgan
Just want to talk about constant currency trends heading into the second quarter; so you did 7% in the first quarter and you’re guiding to 6% to 8% for the second quarter. I think, normally we would expect just given the selling day differential for the second quarter to have increased. So, walk us through what you’re seeing that will lead you to that outlook for 2Q.
John K. Bakewell
Taylor, you started your question with an inquiry on FX. The currency comparable is going to be the hardest of the year in Q2. On a global basis currency affected us by about 3% points in Q1. It should affect us by roughly 4% points in Q2 and then it starts to moderate; I believe, it should be about 2% to 3% points in Q3 and perhaps only 1% point in Q4 if our assumptions hold up here. That’s how FX is going to roll out throughout the period. Looking into Q2 in terms of constant currency performance, I think you can look to our reconstructive joint business to come in pretty much at market rates of growth in the second quarter and that’s to say some more in that 4% to 6% range on a domestic basis. It will be lower than that outside the US because once again we’re expecting to be affected by the slowdown we’ve seen in our international stocking distributor business. Extremities, we would expect that it would continue to roll. We’re having a pretty good go of it in extremities. It has shown a lot of results. It doesn’t appear to be getting affected by the slowdown that we’re seeing in other areas of orthopedics.
Taylor Harris - J.P. Morgan
Two followup to that; one, what you’re saying is that you started to see this domestic large joint slowdown in the last month or so of the first quarter and you get a full quarter’s worth of impact in the second quarter there; just want to make sure I understand that.
John K. Bakewell
Yes, that’s accurate; the last half of the first quarter.
Taylor Harris - J.P. Morgan
On the international stocking distributor issue; help us quantify how much in terms of sales that has pulled out of your results in the first quarter and how much you think it’s going to pull out in the second quarter. It seems like all in all it’s a fairly small part of your business and yet it’s definitely having an impact.
John K. Bakewell
I’m not sure I can quantify that for you Taylor in absolute dollars. You can see what’s happened in terms of deceleration with our international constant currency growth rates and that is for the most part attributable to the issue that we’re seeing in those stocking distributor markets.
Taylor Harris - J.P. Morgan
So you’re saying if it weren’t for the stocking distributors international constant currency would be holding consistent?
John K. Bakewell
I would say it’s fair to say it would at least be holding consistent with the growth rates that we’re seeing domestically, yes.
Taylor Harris - J.P. Morgan
So, in order to hit your full year revenue number, constant currency growth in the back half of the year is going to have to be well into the double digits I guess, 12% plus, am I doing the math there right? Is it really just the stocking distributor issue you’re expecting to turn or are there other assumptions built into that?
John K. Bakewell
We’re definitely planning on acceleration in the second half. There is more to it than just the stocking distributor rebound. In addition to just a recovery within the stocking distributor business, keep in mind that by the time we get to the fourth quarter we’ll actually have an easier comp in that because that began to affect us in the fourth quarter. So you have that and then I’ll add to that the fact that we have two fewer selling days in the first half of the year in the US. There’s actually one extra selling day in the second half of the year. So, think about that sequentially; that’s approximately a 2% point impact turnaround if you will. So, our number of days will actually help us, and that’s a part of the planned acceleration that we have for the back half of the year.
Operator
Your next question comes from the line of Raj Denhoy - Thomas Weisel Partners.
Raj Denhoy - Thomas Weisel Partners
I am curious if I could follow up on that last bit about the international distributors. I am curious how much visibility you have into the amount of inventory they carry. Have they given you an indication that they’re at a point now where they could start to order again or is it really just an assumption on your part that they could come back here?
Gary D. Henley
We don’t have a great deal of visibility; I mean, it varies from distributor to distributor, but just in conversations with them, we’re just a little hopeful for the back half of the year as things improve for them. The other part of that is that it’s not just the pure inventory, but it’s also credit markets as they hopefully loosen up for them a little bit; that’s constrained their ability to buy that inventory as well.
Raj Denhoy - Thomas Weisel Partners
Curious if I could ask about the international biologics business; I am not sure if you’ve addressed in the past, but that continues to be somewhat weak. Is there something in that line we should be looking at?
Gary D. Henley
The majority of the issues were related to two specific countries, one being Turkey and the other one being Belgium, and these were just changes in reimbursements, changes in laws, and regulatory issues. We hope to at some point overcome some of those. You can’t make up for lost sales, but we hope that the efforts we’re undertaking will improve both of those markets of ours in the back half of the year.
John K. Bakewell
Raj, those factors were affecting us in Q4 as well. You may recall we had a pretty low international biologics growth rate in Q4 of last year also.
Raj Denhoy - Thomas Weisel Partners
Yes, and if I remember I think I might have even asked; I think you mentioned it was the Turkish market then, but now you’re saying Belgium as well?
John K. Bakewell
Yes, those are the two areas where we’ve had some regulatory and reimbursement challenges and changes and we’re addressing those. We’re hopeful for the future.
Raj Denhoy - Thomas Weisel Partners
On the expense lines; on the SG&A line in particular, to see that number you guys showed quite a bit of leverage there; I am curious what drove that. There was some expectation that you’d be increasing spending on compliance activities this year; has that not ramped as quickly as you thought or is there something else there? Was it really just expense control as well?
John K. Bakewell
We put into place a lot of our compliance efforts as we told you we would, but it’s just in all honesty I attribute it to good management of the team and their expense control.
Raj Denhoy - Thomas Weisel Partners
One last one; at this point you mentioned the second half of the first quarter started to slow a little bit. I know visibility is not great, but is your sense that the market is continuing to slow just even marginally or is it improving; do you have any sense of the directionality of the recon market here in the US right now?
John K. Bakewell
I think and I’m hopeful that we’ve hit a steady state here. I think there were some procedures that were deferred, delayed. We do believe that there is a delay and that they were not canceled forever. People who have need of these products eventually will come back into the marketplace. Hopefully we’ve seen the slowdown, the steady state, and then begin to climb back up.
Operator
Your next question comes from the line of Matt Miksic - Piper Jaffray.
Matt Miksic - Piper Jaffray
A couple of followup here; and I’ve between a couple of calls, so I apologize if I missed this if you provided it, but there was a question earlier on the stocking distributors in the quarter. The number was certainly within your guided range in the top line at the lower end; I am trying to get a sense of whether as you talk about what’s affecting your business; is it the general climate and did that come in just a little bit lighter than you thought? I guess between the climate in general and between the stocking distributors, what do you think it was that pushed it to the bottom end. It doesn’t seem like it was FX.
John K. Bakewell
There is a combination of a lot of things and we talked about, you missed the comments about the stocking distributor, but that is an issue. The bio we just talked about was reimbursement challenges in a couple of specific countries and then the procedural slowdown we saw in the second half of the first quarter. I think all those in combination contributed to bringing it at the lower end of the range.
Matt Miksic - Piper Jaffray
Is there some additional incremental weakness in the biologics, maybe a bit more pressure in stocking distributors than you expected, and then the second half slowdown which you didn’t expect. Again, I guess the good news there is that it came in still within your range, but those were the factors…
Gary D. Henley
That’s the big contributors and mix, certainly on the laundry list of things that my sales team is looking at, to better understand, but those are the big contributors.
Matt Miksic - Piper Jaffray
And then I think you may have already taken a question like this, but I’d like to, on the second half, what makes you feel like it’s going to get better, and again, may be ask in a similar way, there’s no reason unless the business picks up really for stocking distributors to start picking up their orders, would it be financing that gets them moving or a combination of financing and actually the business trends improving?
Gary D. Henley
Both, I think that if their access to capital improves, right now I think everyone of them would like to have more inventory than they do; so, I think that will play a role in it too. And as I said earlier, I think the procedure volumes have hopefully flattened out and will begin to pick up, and a lot of those procedures may have just been delayed second, third, or fourth quarter this year. So, we talk to our customers, we look at surgeons’ schedules trying to get as good a view as we can get of the future, and we’re still feeling pretty good about the projects we have going, the initiatives we have undertaken, and that we’ll bear fruit in the second half of the year.
Matt Miksic - Piper Jaffray
Just to approach it a little bit on that, Gary, I think may be as we look at, the first quarter came in where it was if we look at a slightly lower cut at the second quarter from where may be the street was and may be more pressure to the back half, now I understand you hadn’t given second quarter guidance before, but as investors look at the back half and think about what do we need to hit that number, I guess the question is, do we need things to get significantly better or is the stabilization that you’re starting to see enough for you to come in in your range for the back half of the year?
Gary D. Henley
I think given our visibility and obviously these are things we spend a lot of time and a lot of thought and talk to our folks around the world about the guidance we just put out there, but given where the procedure volumes are today and the initiatives and the things we have planned for the back half of the year, we were comfortable keeping the guidance where it is. Let me point to you that the EPS we didn’t change, we believe that that’s well within our control. Even if we come to the very bottom of our guidance, we still will make the EPS number. What we see today, if it does improve, procedures volumes improve in the back half, we may even be back guiding it towards the mid to upper part of a range, but right now, as we said, we’re going to guide you towards the lower end of the range given what we see today.
Operator
You next question comes from the line of Michael Matson - Wachovia Capital Markets.
Michael Matson - Wachovia Capital Markets
My first question is just on your stock based compensation guidance, the range that you gave seems to be quite a bit higher than if I just annualize the rate you were at in the first quarter, the $0.04 or so, just wondering why that’s the case and if there’s any potential that that number can come in less than what you’ve guided to?
John K. Bakewell
The ultimate level of stock based expense is going to depend primarily on what our stock price happens to be during this period between now and the end of the year, and I guess stock prices that are relatively low placed in Q1 which consequently resulted in a relatively lower EPS number. We’re just going with an assumption that for the full year it will probably be a heavier number than what we saw in Q1. So, there’s a potential for that number to be a little bit on the high side perhaps, the stock based expense could be a little bit lower than what we’re projecting, but I think we’re comfortable with the $0.22 to $0.24 that we’ve given you for the full year right now.
Michael Matson - Wachovia Capital Markets
I think one concern that I’ve heard out there regarding Wright being one of the smaller players in the recon market or may be one of the mid-size players in the recon market, with the hospitals under a lot of pressure, there’s potential for some vendor consolidation where the hospitals try to convince surgeons to use products from some of the bigger players, have you seen any of that happening, and if so or if not, how would you kind of position Wright in that scenario against some of the bigger players?
Gary D. Henley
I think the first thing I would say is as I have said in my script earlier is that I think we are out there promoting the best product portfolio in the industry today. We have some very innovative and compelling products, and I’m not sure our customers will be dissuaded from using them. We have great benefits not only for the surgeons but for the patients, so I think we remain very competitive.
Michael Matson - Wachovia Capital Markets
Alright, have you seen any of these consolidation efforts anywhere in any of your customers?
Gary D. Henley
I think you asked me that question in my very first conference call 3 years ago; the answer is yes, people try to limit the number of vendors from time to time where they try to cap prices, there’s all kinds of things that have been going on in the industry and has for some time and I’m sure will continue into the future to some degree. Their desire to implement those things and their ability to effectively implement them sometimes vary.
Michael Matson - Wachovia Capital Markets
Okay, so, if I’m hearing you correctly, you’re basically saying that it’s going on but you haven’t seen a change in the intensity of those efforts in the past 3 to 6 months?
Gary D. Henley
Yes, I’d say that’s correct.
Michael Matson - Wachovia Capital Markets
Okay, just wondering if you could give us guidance on free cash flow for the year; it sounds like you had about $5.5 million for the quarter, if I heard correctly, so, that would imply that has multiplied by 4, around $20 million, is that a reasonable assumption to you?
John K. Bakewell
It’s probably not; we’re off to a really good start and we’re really happy with performance here in Q1. On a full year basis, our goal is to produce positive free cash flow, neutral to positive, so, we always got through Q3 which is a seasonally low period where were typically don’t generate a lot of cash, oftentimes with negative, so, on a full year basis, our objective remains neutral to slightly positive, but I don’t think unless things go incredibly well, that we’ll see $20 million of free cash flow.
Gary D. Henley
I would point out again that on a year-over-year basis, that’s an $80 million improvement on cash flow, and for a company our size, that’s very significant.
Operator
Your next question comes from the line of Glenn Navarro - RBC Capital Markets.
Glenn Navarro - RBC Capital Markets
Can you give us some color behind knee and hip pricing in the quarter, particularly in the US, and the reason I’m asking is that on Zimmer’s call last week, they talked more about incrementally on the margins slightly more pricing pressure in the US here in the first quarter than in the fourth quarter, so wondering if you can give us any color on your pricing here in the US this quarter versus the fourth quarter of ’08, that’s question #1; and then on the gross margin, it came in lighter, year-over-year a little bit lighter also relative to our expectations, I’m wondering if you can break out kind of the gross margin, how much was it due to currency, how much was it commodity raw material price, and how much was it for instance biologics since that came in light?
Gary D. Henley
I’ll just comment on the pricing, we really didn’t see anything significant to talk about in Q4 to Q1 on the hip and knee pricing. ASPs remained fairly flat. On the gross margin side, John’s got a couple of comments there.
John K. Bakewell
Glenn, if you compare the gross margin year-over-year, in other words that would be the 68.8% that we posted here in Q1 of this year versus the 72.4% last year. I must say roughly 90 basis points of that year-over-year decline is related to FX, and probably over 100 basis points, probably about 110 basis points of that is the unfavorable purchase price flowing through from commodities year-over-year, and then the remainder would be there’s also probably a little bit of a differential as it relates to our overall levels of reserving from one year to the next.
Glenn Navarro - RBC Capital Markets
Just one other question, on SG&A, I appreciate the fact that you’re able to leverage the SG&A in the quarter and perhaps throughout the year, I’m assuming the SG&A leverage that you’re getting is more out of the G&A and some back office functions, but at what point does leveraging SG&A start to hurt future sales; if any may be it doesn’t because you’re not really impacting the sales and marketing side of your business, but just some commentary on kind of what you’re doing on the SG&A line and how far you can go before it starts impacting the ongoing revenue line down the road?
John K. Bakewell
Kind of to confirm your statement that the majority of it did come out of the G&A side of the business, we had 340 basis points of leverage in SG&A year-over-year here in Q1. We had some help by the fact that we had two unrelated expenses in Q1 of last year, so, about 70 basis points of that 340 is just related to synergies enclosing our Toulon facility, but that’s quite a bit of leverage and the bulk of that did indeed come out of the G&A side of the business; so, I’m not sure I can answer the question, how much can you take out of the selling or marketing side before you’re experiencing problems, but can tell you that we haven’t taken a tremendous amount out to date.
Gary D. Henley
No, there have not been any headcount reductions of any significance or a program put in place, this is just controlling the everyday expenses, just watching them.
Glenn Navarro - RBC Capital Markets
And the point here is there’s plenty of cushion in that SG&A line particularly on the G&A side where if revenues were to come in on the lower end, you’re still making the numbers?
John K. Bakewell
Yes, that’s why while we pointed you to the lower end of our revenue guidance for the full year, we’re not doing that with our EPS guidance. We’re still quite confident in kind of the full range of our earnings outlook that we’ve shared with you.
Operator
Your next question comes from the line of William Plovanic - Canaccord Adams.
William Plovanic - Canaccord Adams
Just a clarification question, on the sales force growth in 2009 versus 2008, do you have any target in place?
John K. Bakewell
We have internal targets, remember I stopped giving the empirical number when I got here because I felt like it always was helping the competitors, but I will say that last week, as I’ve said before, 18 new foot and ankle sales reps were here for training, so, we’re continuing to invest in our sales force and we will expand them at our internal plan.
William Plovanic - Canaccord Adams
And in that internal plan, is the growth rate slower for ’09 over ’08 versus ’08 versus ’07, are there any savings by not growing?
Gary D. Henley
Yes, we’re not expanding at the same rate; remember when we started in the first quarter of 2007, we had zero focus in foot and ankle sales reps and now we have a lot bigger number than zero.
William Plovanic - Canaccord Adams
Okay, and then, you said the government inquiries were the reason for a significant percentage of the one-time charges of $4 million or $4.1 million, I can’t find in the press release, what exactly did that mean; can you define government inquiries?
John K. Bakewell
Those are all legal outside counsel expenses for the most part.
William Plovanic - Canaccord Adams
Is that only with the DOJ investigation or are there multiple inquiries?
John K. Bakewell
It’s primarily the DOJ; there is an informal investigation, inquiry not even investigation, with SEC and that’s required us to provide some documents and what not.
Gary D. Henley
You may recall that that was announced I believe back in October of last year; again, it’s in our 10-K, it’s been there for a while.
William Plovanic - Canaccord Adams
And then, the hip and knee growth has been kind of slow, how do you turn those businesses around, how do you finally get in growing, I think you’re saying that you hope to have market growth, but as a small player, it should be above market growth, how do you actually achieve that?
John K. Bakewell
I think we actually have been for the past couple of years growing fast in the market, and I’d say we were at or may be slightly above our competitors this quarter, and I think we will continue to do that. We have a number of surgeons coming in here in 2 weeks to be training for our PATH products; it’s an ongoing effort that we do, taking our innovative products out there. I don’t see that stopping. We’re still continuing to get new customers.
Operator
Your next question comes from the line of Jeff Johnson - Robert W. Baird & Co.
Jeff Johnson - Robert W. Baird & Co.
Let me start with two things; one, just constant currency expectations for the year; I know you’re reaffirming or affirming the full year number; have currency assumptions and/or acquisitions changed in that number at all or is there a constant currency growth estimate in the press release, and also then in orthobiologics, just didn’t hear any comment on GRAFTJACKET, just wondering if Stratus is having any impact; I wouldn’t think diabetic foot ulcers are sensitive to the economy; so, just wondering if any commentary around GRAFTJACKET?
Gary D. Henley
I’ll take the GRAFTJACKET; no, we haven’t had an impact of any competitive product, specifically the one you just mentioned. Our biggest issues have been getting good coverage for GRAFTJACKET, and now this latest study that I told about helped us a great deal; so, GRAFTJACKET continues to be a good performer and I think it will be better to go forward.
John K. Bakewell
Jeff, your first question was about our constant currency growth rates, global as reported guidance would indicate something between 8% and 10% growth; on a constant currency basis, that represents approximately 11% to 13%.
Jeff Johnson - Robert W. Baird & Co.
So, that has not changed since the last quarter, just wanted to confirm that?
John K. Bakewell
That’s correct.
Jeff Johnson - Robert W. Baird & Co.
And then following up on Bill’s question on the legal expenses, the $4 million seems to be up sequentially quite a bit, just any reason that went up, was the informal inquiry from October as you mentioned, and also then, structurally on the SG&A coming down at 340 basis points or 270 I guess ex-Toulon, any structural changes there, lets say, market improves, the recon trends improve as we get into 2010, can some of those cost savings stay out of the model or will they just go back in as you untighten the belt so to speak?
Gary D. Henley
No, I don’t see it changing. We haven’t tightened the belt significantly; we haven’t pulled on it very hard, we may have moved it up one knot, but that’s about it. We’re still investing as I said last time, we’re still pushing hard to fund the programs and initiatives that we’ve got started; so, we’re just being prudent, that’s all. So, we still have room to squeeze the belt as you say.
Jeff Johnson - Robert W. Baird & Co.
So, Gary, to push back there, 270 basis points of SG&A savings or G&A savings is quite a bit, is there that much fat in the system that that’s cutting 270 basis points isn’t overly difficult, conceptually how do we think about how you went about cutting that much if you didn’t think that didn’t take a whole lot of effort?
Gary D. Henley
May be I’ve over-saved the effort, but it was a good expense control process across the board from everyone, and it’s on a global basis; they just watched the Ps and Qs, but there was no massive undertaking in terms of downsizing or layoffs or anything like that, that’s not the case at all.
Jeff Johnson - Robert W. Baird & Co.
Okay, and then John on the DOJ expenses, the $4 million there, and also can you just clarity the extra selling day in H2, is that Q3 or Q4, just for modeling purposes?
John K. Bakewell
There’s probably not a lot of characterization that I can give you on the government inquiry expenses other than to just say that the amount of expense correlates I guess with the amount of activity that takes place in any given quarter. I should also follow up on just so everyone’s clear on the FCPA inquiry, that’s the same industry why the inquiry that all of the orthopedic industry has been undertaking; that is not anything specific to us, and like I said, that’s been in the run rate as well here for quite a little while.
Jeff Johnson - Robert W. Baird & Co.
Great, and then the extra selling day if you could?
John K. Bakewell
Yes, Q4 has the extra selling day.
Jeff Johnson - Robert W. Baird & Co.
And then last question from me, Gary, you mentioned that you are undertaking some efforts in Turkey and may be in Belgium on the reimbursement front, any additional color you can provide there, and then I think last quarter you made the comment that you thought you had solved some of those issues by the end of the year and the number is still pretty soft this quarter, so just wondering if something incremental has happened or if there’s still some issues you think you can address in your term?
Gary D. Henley
I still think we can make some progress; we’ve got our regulatory folks over there and there’s a fair amount of effort going, trying to get things changed with any government is not always a quick thing to do, but our confidence level is still good.
Jeff Johnson - Robert W. Baird & Co.
So, are these efforts Gary, forgive me just that, your competitors are also undertaking or is this something focused only on a Wright Medical product, just so we can understand?
Gary D. Henley
No, it’s all types of products; it’s our ALLOMATRIX products and DBM; so, it’s across the board, it’s not just us.
Operator
Your next question comes from the line of Taylor Harris - J.P. Morgan.
Taylor Harris - J.P. Morgan
Just a few followups, first of all Gary, I’m curious to get your thoughts on why the knee market is slowing more than the hip market, do you think knees are a more elective procedure than hips?
Gary D. Henley
I think as I talked to our physicians and our sales and marketing teams here, I do believe that people will delay the knee procedure longer than they will, I think you can wear braces, you can alter your lifestyle a little bit, and limp along so to speak with the knee and delay that for some period of time, but with the hip, they hurt all the time, you can’t sleep, you can’t do anything; and people will get that addressed much quicker. I’ll expand on that, we also think that’s true more for the foot procedures that we have here too. Again, you don’t have the same good options for bracing and offloading for the foot or ankle that you do for the knee, so we probably see knees deferred the most, again deferred to the word and I do believe that eventually those will come back into the system and that will be a good day, but hips probably don’t get deferred as readily and also we think the foot and ankle procedures.
Taylor Harris - J.P. Morgan
Okay, that’s helpful. Then, just looking through various revenue reported lines, it was interesting, I think the areas where you came up a little lie, at least relative to what we were thinking were the international business which we’ve talked about with the stocking distributors, but the other two was the other line, and the US Biologics, so may be you could just tell us why that’s down so much year-over-year and are we at a run rate now that we can just project forward, I guess that’s question #1; and US Biologics, that is a sub-trend number for you guys, so what is it that’s slowing down there?
Gary D. Henley
First of all, on the other, it’s some of our capital goods; we distributed some capital goods in Europe and capital markets were hit a little more than implant market was; we think that we’ll come back; these are capital goods that do wear out, they’re not something that will last forever, so they’ll have to be replaced at some point in time; I think again it’s a delay or deferral as opposed to cancels; so, that business will come back, we just don’t know the timing of it yet. On the bio side here in the States, I think people are just being a little more cautious in their purchasing; if they can get by utilizing some chips, something else as opposed to an ALLOMATRIX or one of our products, may be that’s part, I don’t know, but we were I guess a little bit more surprised about that being down than some of our implants, but as I looked and talked to everyone here the past couple of weeks, there’s no panic and I think that that market will continue to grow for us. The GRAFTJACKET study that we just got out here will certainly help drive that, having the efficacy of the clinical study behind that product I think will ignite that again, so.
Taylor Harris - J.P. Morgan
So, were DBM sales down; I mean the business was only up 2%, you said PRODENSE drove it….
Gary D. Henley
PRODENSE was up, the ALLOMATRIX was down a little bit, the DBM stuff and GRAFTJACKET was kind of flattish.
Taylor Harris - J.P. Morgan
Last question, John, on inventories, it was nice to see inventories work to down sum, was that in a particular product category and can we expect further reductions?
John K. Bakewell
No, Taylor, it was pretty broad based. I think you can think of it as being across multiple product lines and also both with field inventory as well as finished goods stocks here at our central warehousing; we’re making some really good progress on inventory levels, and obviously it showed up in our cash flow, and we’re expecting that it’s going to continue to improve as we move through the year.
Taylor Harris - J.P. Morgan
So, absolute inventory levels can continue to come down?
Gary D. Henley
I wouldn’t count on absolute levels, they’ll certainly hold their own and the DOH number is expected to steadily improve.
Operator
This concludes the amount of time we have for Q&A today. We’d now like to turn the call back over to Mr. Gary Henley for closing remarks.
Gary D. Henley
I’d like to thank all of you who participated and joined us today. As I said earlier, I’m quite pleased with the progress we’ve made in the business to date and how well our prospects appear to be as we continue on through 2009 and beyond. And with that, good afternoon, and we look forward to speaking to you at our upcoming Q2 call.
Operator
As explained at the beginning, this conference call may have included some forward-looking statements as defined in the Federal Security Laws. We refer you to our earlier explanation for more detailed description of forward-looking statements.
We again caution you that actual results might differ materially from those described in the forward-looking statements. We also direct your attention to the risks and uncertainties discussed in our SEC filings, including our 10-K for 2008 and our subsequent 10-Qs during 2009. These factors could cause our actual results to materially differ from those described in the forward-looking statements.
In addition, you should not view a forward-looking statement as a representation by us that the described results will be achieved. We again caution you not to place undue reliance on any forward-looking statements. Finally, all forward-looking statements are made as of today’s date and we assume no obligation to update any such statement after this day.
Thank you for your participation in today’s conference.
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