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Becton, Dickinson and Company (NYSE:BDX)

F2Q09 Earnings Call

April 28, 2009 10:00 am ET

Executives

Patricia A. Spinella – Director of Investor Relations

Vincent A. Forlenza – President

David V. Elkins – Executive Vice President and Chief Financial Officer

Gary M. Cohen – Executive Vice President

William A. Kozy – Executive Vice President

Analysts

David Lewis - Morgan Stanley

Jon Wood - BAS-ML

Bruce Cranna - Leerink Swann LLC

Sara Michelmore - Cowen and Company

Sara Michelmore - Cowen and Company

Michael Weinstein - J.P. Morgan

Kristen Stewart - Credit Suisse

Peter Lawson - Thomas Weisel Partners

James Baker - Neuberger Berman

Operator

Hello and welcome to BD’s second quarter 2009 earnings call. At the request of BD today’s call is being recorded. It will be available for replay through Tuesday, May 5 on the Investors page of the bd.com website or by phone at 800-642-1687 for domestic calls and area code 706-645-9291 for international calls using conference ID 92219921. (Operator Instructions)

Beginning today’s call is Miss Patricia Spinella, Director of Investor Relations. Miss Spinella, you may begin.

Patricia A. Spinella

Good morning everyone and thank you for joining us to review our second fiscal quarter results. As a new practice and as we referenced in our news release this morning we are presenting a set of slides to accompany our remarks on this call. The slide presentation is posted on the Investor Relations page of our website at www.bd.com.

During today’s call we will make some forward-looking statements and it’s possible that actual results could differ from our expectations. Factors that could cause such differences appear in our second quarter fiscal quarter press release and in the MD&A section of our recent SEC filings. We will also discuss some non-GAAP financial measures with respect to our performance. A reconciliation to GAAP measures can be found in our press release and the related financial schedules. A copy of the release, which includes the financial schedules, is also posted on our website.

Leading the call this morning is Vince Forlenza, President. Also joining us are David Elkins, Executive Vice President and Chief Financial Officer, and BD Executive Vice Presidents Gary Cohen and Bill Kozy. I will now turn the call over to Vince.

Vincent A. Forlenza

Thanks Pat and good morning everyone. I assume you’ve all had time to review the earnings release and the attachments that we sent out this morning. We’d like to devote as much time as possible to answering your questions. However, I’d like to make some brief comments regarding our second quarter results and after David walks us through the financials, I will discuss our outlook for the second half.

Now moving to Slide 4, Business Highlights. Before reviewing our highlights I would like to point out that as noted in our earnings release we have reached an agreement to settle the claims of the direct purchaser plaintiffs in the antitrust class action suits. Our comments today exclude the impact of the pretax $45 million charge or $0.11 diluted EPS from continuing operations relating to the settlement.

Now looking at our results for the second quarter, adjusted fully diluted earnings per share of $1.18 was in line with our expectations. The economic environment is impacting our customers in certain areas of our business, in particular U.S. Biosciences and foreign currency continues to negatively impact year-on-year reported growth. The company’s cost control programs, however, continue to drive operating margin expansion. We have reaffirmed guidance for full year adjusted EPS growth of 9 to 11% in the face of approximately $500 million of projected lost gross revenues due to currency before hedges, and even though we are expecting to experience much stronger headwinds from foreign currency in the second half of the year.

Now Slide 5, Financial Highlights. As you can see in Slide 5 we achieved underlying revenue growth of 3.7% in the first half. In the face of severe economic challenges we expect to achieve underlying revenue growth of 4 to 5% for full year 2009. I’ll visit this later to explain where the growth comes from.

Now I’d like to turn the call over to David to cover our financials.

David V. Elkins

Thank you Vince and good morning everyone. I’d like to begin our financial review with revenue growth by segment. Medical second quarter revenues declined about 3% or about 5 percentage point unfavorable impact from foreign currency translation. On a currency neutral basis, underlying growth was about 2%. On a currency neutral basis, solid worldwide sales of medical surgical systems products were offset in part by the expected decline of sales in prefilled devices in the U.S. For the first half, underlying growth was about 2% on a currency neutral basis.

Revenues in the BD Diagnostic segment grew about 2% after about a 3 percentage point unfavorable impact from foreign currency translation. On a currency neutral basis underlying growth was 5%. Solid sales of safety engineered devices, cancer diagnostic products and infectious disease testing systems were partially offset by a decline in the sales of flu testing products due to a mild flu season in the U.S. For the first half, underlying growth increased about 6%.

In the Biosciences segment worldwide revenues grew about 3% in the quarter. Strong international sales growth of research instruments and reagents, primarily in Western Europe and Japan, were offset in part by slowdown in research related capital spending in the U.S., particularly in the academic and bio-tech markets. So for the first half underlying growth increased about 6%.

Now moving to Slide 8, reported sales growth of our safety was 5% in the quarter to $392 million. On a currency neutral basis underlying growth was about 9%. This was comprised of a 3% growth rate in the U.S. and a strong underlying international growth rate of 19%. For the first half, underlying growth was about 8% on a currency neutral basis, which is a combination of 2% growth rate in the U.S. and an underlying growth rate international safety of 19% on a currency neutral basis.

On the next slide, we’ll look at revenue by region. In the second quarter, BD’s U.S. reported revenue declined 1%. U.S. medical revenues were flat year-on-year reflecting the anticipated decline in prefillable devices and distributor destocking of our influenza delivery devices. U.S. sales of diagnostic products increased 1% reflecting the light flu season and a weaker than anticipated uptake of the new BACTEC system.

Biosciences in revenues in the U.S. declined 9% reflecting the weaker demand in the academic and biotech markets due to funding constraints and lower sales of the advanced bioprocessing products. As a result of these market dynamics, the first half U.S. reported revenues increased 1% in the U.S., with Medical and Biosciences revenue flat year-on-year and Diagnostics revenues increasing 2%.

Reported international revenues in the second quarter were flat year-on-year reflecting the 6 percentage point unfavorable impact in foreign currency translation. On a currency neutral basis, the underlying growth was about 6% driven by the strong performance in Western Europe and emerging markets. Second quarter revenue on a currency neutral basis resulted in underlying growth of 3% for Medical, 9% for Diagnostic and 10% for Biosciences.

For the first half reported international revenues were flat year-on-year reflecting the 6 percentage point unfavorable impact from foreign currency translation. On a currency neutral basis, international revenues increased 6% in the first half with Medical increasing 3% and Diagnostics and Biosciences each increasing 10%.

Now looking at second quarter revenue on the next slide and the growth year-on-year, these gains came from the underlying performance and our hedging program were more than offset by currency reflecting approximate $90 million of lost revenue due to the strengthening dollar.

On the following slide I’ll go through gross margin. As you can see from the slide, gross margin improved 80 basis points in the second quarter to 51.9%. This was primarily driven by hedge gains and by foreign currency translation which actually had a positive impact on the gross margin percentage in the quarter. The currency and hedge gains were offset in part by start up costs and product mix. The first half gross margin further improved over the prior year to 52.7% due to the translation gains in the first quarter, which we discussed on our first quarter earnings call.

Slide 12 now examines SSG&A and R&D expenses in the second quarter. SSG&A spending decreased by $20 million in the quarter primarily driven by foreign exchange. On a currency neutral basis underlying expenses are flat year-on-year after absorbing inflation. Therefore, in real terms our expenses are down as a result of our disciplined expense management. R&D spending increased 3% reflecting an increase in our total R&D as a percent of sales to 5.7%. In addition to our total R&D increase, we are also focusing more of our spend on our key growth initiatives.

Now moving on to operating income, Slide 13. Our second quarter operating income increased 7% to $408 million. As a percent of sales operating increased 170 basis points to 23.5%. This was a result of the positive impact of the hedge gains and foreign currency translation had on our gross margins, and the margin expansion we get from our continued focus on expense management.

Slide 14 looks at operating income year-to-date. Year-to-date our operating income increased by 11.6% or to 23.9% of sales for the reasons I mentioned earlier.

Now I’d like to switch to guidance for the year. On Slide 15 I’d like to discuss the full year guidance for revenues. Beginning with BD’s underlying growth for the first half was about 4%. Underlying growth for the second half is expected to be about 5 to 6% which is primarily driven by the expected improvement in our Diabetes Care and [Pharm] System business units. Our actual underlying growth of 4% in the first half, coupled with the expected underlying growth improvement in the second half of 5 to 6% will result in an expected full year underlying growth rate of 4 to 5%.

Now moving to Slide 16 I’ll walk you through our guidance for operating margins. We expect gross profit margins to improve from 51.2% to a range of 52.5 to 53%. SSG&A is expected to improve from 24% to a range of 22.9 to 23%. R&D spending is expected to increase from 5.5% to a range of 5.6 to 5.8%. So our overall operating margin is expected to improve from 21.7% to a range of 23.5 to 24% which is an approximate 180 basis point improvement year-over-year.

Three other items I’d like to cover with you prior to moving on is first, operating cash flows are expected to be between $1.6 to $1.8 billion for the full year. Our capital expenditure guidance is unchanged at $650 million for the full year and we continue to guide share repurchases of $450 million for the year.

Now I’d like to move on to EPS guidance, Slide 17. Since we have unusual swings in currency and hedges on a quarterly basis, I’d like to walk you through the components that make up our earnings guidance for the full year. For the first half we start with our 2008 base earnings per share of $2.16 from the prior year’s first half. To this we add $0.09 or 4.2% of underlying performance, plus the positive impacts of $0.01 from currency and $0.17 from the hedge gain. This gives us an adjusted first half earnings per share of $2.43 or an increase of 12.5%. For the second half of 2009 we’re building on a 2008 base of $2.30. Increased revenue growth coupled with improved operating efficiencies are expected to drive underlying performance increase of 10 to 13%.

In addition, a negative currency impact of $0.28 is expected to result from the dollars appreciation to the euro when compared to the second half of last year. This is illustrated in Slide 18. The positive impact of $0.17 from the hedge gain in the first half is expected to be repeated in the second half based upon today’s exchange rates. Please note that currency and hedge impacts are estimates only and will vary according to the actual exchange rate fluctuations. So this results in an adjusted second half earnings per share estimate of $2.43 to $2.52 or an increase of 6 to 10%.

In summary, I’d like to highlight our underlying performance on an adjusted earnings per share basis. As I mentioned earlier, in the first half we experienced two market factors that impacted our underlying performance. The first is the impact of wholesaler destocking in Diabetes Care products and the macroeconomic factors impacting our Eastern European operations. The second is the impact reduced research funding had on our U.S. Biosciences business in the second quarter. As Vince will discuss in a moment, the underlying performance in the second half is expected to improve to 10 to 13%. This is driven by the expected revenue improvements in Diabetes Care and [Pharm] Systems and our planned efficiency gains through expense management. The net result is a full year underlying performance of 7 to 9% and an adjusted earnings per share of 9 to 11%. This gives us confidence in delivering this year and providing a strong platform for growth moving forward.

I’ll now turn the call over to Vince, who will walk you through our plan for the second half of the year.

Vincent A. Forlenza

Before we open the call to questions, I’d like to review the currency neutral growth outlook for each of our segments in the second half. It’s on Slide 20. BD Medical’s growth rate is expected to improve from 1.9% in the first half to approximately 4% for the full year, which implies a 6% growth rate in the second half. All Medical business units are expected to improve in the second half. In particular, Pharmaceutical Systems is expected to show strong revenue growth in the fourth quarter and Diabetes Care is expected to return to its normalized growth rate having absorbed inventory reductions and distributor destocking in the second quarter.

Diagnostics growth rate is expected to show slight improvement from 5.6% in the first half to 6% for the full year, reflecting a 6 to 7% growth rate in the second half of the year, absent the negative impact of a light flu season and weaker than anticipated sales of the new BACTEC system in the first half.

Since I know you’re going to ask, genome revenues increased to $14 million in the quarter and TriPath revenues increased about 9% on a reported basis and include the first installations of the FocalPoint GS in the U.S. We are reaffirming revenue guidance for both genome and TriPath.

Moving on, our Bioscience segment is expected to face continuing challenges in the U.S. in FY ’09. The U.S. academic market has been hit by endowment funds that have on average declined 40%. We’re seeing a large increase of biotech companies with less than six months of cash, and the clinical market is economizing on their use of reagents.

While we are seeing a large increase of requests for quotations for our instruments, we are not forecasting a positive impact from the stimulus package until 2010. We expect international sales growth to remain in the 9% range for the balance of FY ’09.

Now to Slide 21. I would like to leave you with these key takeaways today. Our underlying revenue growth for 2009 is expected to be in the 4 to 5% range in the face of economic challenges and wholesaler destocking. We are reaffirming guidance and expect to deliver 9 to 11% adjusted EPS growth by continuously driving efficiency. Our spending controls are helping to drive operating margins. We are accelerating and expanding our efficiency and effectiveness programs in 2010, including flat salaries for 2010 and reducing executive compensation among other initiatives and considerations. We are driving investment and growth opportunities to insure a strong platform for growth in 2010 and beyond.

BD is committed to driving shareholder value by increasing cash flow to enable dividend growth and share repurchases. Biosciences faces near term challenges, especially in the U.S. Medical is recovering and Diagnostics is solid. This is another example of benefiting from our diversification.

Suffice it to say these are extraordinary times and we cannot predict the length or severity of the global economic crisis, but what we said last November in our annual report to shareholders is still true today and that is we have reviewed our financial position and credit market exposures, and we believe we are well prepared for these economic times. Our balance sheet is strong. Our cash flow is healthy and we see little risk to our ability to fund our operations or plan for future growth. We will continue to respond to the current economic conditions with the same commitment responsibility, prudence and transparency as we have done for many years. We are confident that with hard work and discipline BD will emerge even stronger while continuing to reward our shareholders. Thank you.

And with that, Operator, we will open the call for Q&A.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from David Lewis - Morgan Stanley.

David Lewis - Morgan Stanley

Vince, given your comments on sort of the second half of your outlook and obviously how critical it is to guidance, I wonder if you’d give us some more clarity on a few specific buckets. I guess number one looking at the prefilled business, obviously given what we saw from GARDASIL and Enbrel in the quarter I wonder if you could comment on outlook there, as well as emerging market weakness off of last quarter and sort of your confidence in the outlook in emerging markets? And then lastly on destocking and your comfortability that your inventory levels are set at manageable points. I’ll give you those issues on outlook and I have a follow up.

Vincent A. Forlenza

Okay. So David I’ll make a brief introductory comment and then I’m going to ask Bill Kozy to talk a little bit more about the Medical business and in particular Pharm Systems. Gary will pick up the emerging market piece of the question.

As I mentioned, we are expecting a higher growth rate in Medical in the second half, and all of the businesses are going to participate. And Bill can give you a little bit more color there. But to remind you specifically on Pharm Systems, if you went back and you looked at last year in Pharm Systems the growth was very heavily skewed to the front half of the year as we had launches with a couple of new major products by our pharmaceutical partners. And then we actually had a significant decrease in the second half of the year. So in terms of the comps, they’re completely flipping around from the first half of the year to second half of the year. And Bill and the team have been analyzing, you know, the orders coming in for the second half of the year and I think they have a high degree of confidence of what’s going on there. So maybe I’ll ask Bill to make a few more comments on that and then we’ll go to Gary on emerging markets.

William A. Kozy

Sure. As Vince mentioned we’re guiding for the total year on Pharm Systems on a FX neutral basis at about 5%. The U.S. decline continues and for the year we’ll think that it’ll be down about 8% but we’re expecting international growth in the 8 to 9% range, driven by some contribution from Western Europe probably in the 9% range. And then on some smaller geographic basis, some solid growth in Asia-Pacific and Latin America both well into double digits over the second half of the year.

In terms of the timing of the growth, Pharm Systems business in the third quarter will look relatively flat and that reflects a pretty tough comp we’ve got to a real strong FY ’08 where we had international growth well above 20%. Fourth quarter though will be about the same in dollar terms as third quarter but we’re up against a weaker comp in that fourth quarter and we are anticipating growth right around 20% for the worldwide business as we start to see both the U.S. and the international pieces grow as compared to a FY ’08 Q4 that decreased.

Now in terms of order management, as you know with Big PhRMA we get projections that tend to run in the five to six months advance notification of pending order. Those orders get confirmed in the two to three month period prior. Based on our work with our major PhRMA customers that’s kind of the basis for these projections that we’re discussing today.

Vincent A. Forlenza

Great. Gary?

Gary M. Cohen

And to comment on emerging markets, you know I know that in the last call we talked a little bit about the issues that we had experienced in Russia and a little bit about Africa and I’ll mention those again, but I also want to share the broader picture that broadly in emerging markets when you look at markets like China and India in particular, we’re doing extremely well and it has a very different feel. You don’t think you’re in an economic crisis when you visit those regions.

We’re getting very strong double digit growth in China, better than teens growth in China and we’re expecting that to continue in the second half as well as strong double digit growth in India. In Russia the negative impact was really confined to two businesses, Medical Surgical and PAS, both of which were using a large part of the distribution is coming from outside Russia into Russia, so the distributors are paying in dollars and reselling in rubles, and that was the source of the impact there. And we couldn’t just place some response program to price more competitively to enable them to restore some of that business.

And in Africa, where totally out of our control India had pulled out of UNICEF’s tendering process for immunization syringes, that and a little bit of a slowdown in the CD4 business particularly in western Africa. But the overall picture for the emerging markets is a very positive one and just looking broadly for the moment international, Europe is growing solidly, [E and A] which is eastern Europe, Italy, and Africa we expect to recover in the back half based on the items I just mentioned, and a lessening of the effect from Russia and Africa. Asia-Pacific is growing in double digits. The northern part of Latin America is growing in double digits, and we’re also getting good growth in southern Latin America. So the overall feel is very good in the international markets and including the emerging markets.

Vincent A. Forlenza

David, the last part of your question was around distributor destocking and that was primarily in Diabetes Care and we’ve already seen that stabilize.

David Lewis - Morgan Stanley

I’ll ask two more quick ones then I’ll jump back in queue. The first was if someone could just comment on you said flu weakness this quarter, obviously we’re obviously concerned about global pandemic swine flu, maybe your outlook there or expectations there. And then secondarily for David in terms of margins hitting in this year, obviously top line’s proven to be weaker than we expected. If you look at the things that are going to drive positive margin expansion this year, largely lower input costs, cost cutting can you just basically describe to us maybe just on a qualitative basis whether you’re – how far we’ve had to cut into that cushion this year already and is there still further cushion to go? Or are we starting to get a little maxed out? Thank you.

Vincent A. Forlenza

Well let’s take the question on the flu first. We were talking about the fact that there was virtually no flu in the United States during this quarter and obviously there’s major concern about what might happen with the flu going forward. It’s too early to really predict where that may go but I’ll turn it over to Gary to make a couple comments who has been very involved in our own pandemic planning.

Gary M. Cohen

So just to reinforce, Vince’s comments were referring to the non-pandemic, non-outbreak season that we’d experienced prior to the more recent news starting in Mexico and which has now spread to most regions of the world. And I’m sure you’re following the news as we are that there’s over 150 deaths reported in Mexico. The strain seems to be less severe in other parts of the world, but it’s spreading very rapidly.

We’ve been planning around pandemic, more so based on H5N1 avian strain but it applies here as well over the past 18 months for this type of occurrence as part of our enterprise risk management process. And associated with that, there were two main constructs. One is internal planning around workforce policies and how we respond and insure continuing operations but the other part was to insure that we would be able to produce in equivalent or larger quantities the product that may be most in demand during a flu outbreak.

So those activities are now engaged. They’re engaged in a very serious way in Mexico which we would consider to be in a serious situation and we have two significant facilities there. And as well we’re engaging to a lesser degree around the world. We have coordinators located in every location of the world that have been assigned over the past 18 months for an event such as this.

The type of products that you can expect to be potentially in higher demand, although we’re not necessarily seeing much of it yet, would be rapid flu tests where there’s already an increased demand as you might expect from Mexico. That’s not a large business for us but the demand is already going up. And also immunization devices that would accompany either injectable anti-virals or immunizations for the flu strain as injectables are developed, as flu vaccine is developed around these strains.

So we’re very well prepared for this and now all the planning that’s been put into place is being put to good use. Now we should know soon whether it has any impact on product demands.

Vincent A. Forlenza

Okay. So David’s going to handle the gross margin question.

David V. Elkins

So David on the gross margin if you remember on Slide 16, year-to-date we’re sitting at about 52.7 and what we’re guiding for the full year is 52.5 to 53. So you know there’s a lot of moving parts in there as we talked about before between mix, start up, purchase price variances and when you put all those things together we think that guidance is really our best view at this point in time. So I wouldn’t articulate it as cushion. I’d say what we’re giving you is our best view of where we think we’ll land for the full year.

Operator

Your next question comes from Jon Wood - BAS-ML.

Jon Wood - BAS-ML

For Bill Kozy if I look at the cell analysis business down 8%, U.S. cell analysis down 8% in the quarter first of all what did the instrumentation do versus the consumables?

Vincent A. Forlenza

Well this is Vince Forlenza. Bill’s got Medical now so let me just talk a little bit about the business. There was declines in both the consumables and the instrumentation piece and with both being off somewhat. And let me just take a quick look for you. In the quarter, the [Pharmagen] piece was down on a performance basis about 7% and the overall IS business, the flow cytometry business was about 8, down 8%. Both of those are U.S. numbers and that’s where we saw the decrease. The international piece as we mentioned for Biosciences was up 11% in the second quarter.

Jon Wood - BAS-ML

And by customer group, just the breakout I guess qualitatively between commercial R&D, academic government and then clinical? Were there any disparities between those three customer groups?

Vincent A. Forlenza

Well we did see growth go down in the research market to the greatest extent, but both research and PhRMA were off more than the clinical marketplace. The clinical market was down slightly as well so you saw it in all three segments and you’d say well why in the clinical marketplace? Well in the clinical we’ve had very aggressive growth in some of the developing world countries, and while they still grew they did not grow as fast and then some of the large labs economized on some reagents. But you know as a percentage drop the biggest was in biotech where I mentioned in my comments the number of companies with less than six months of cash.

Jon Wood - BAS-ML

And then just given the level of quoting activity I’d imagine a lot of the government academic was just a deferral because of the stimulus coming down the pipe. Is it just a timing of when you think those grants are released or not hitting your fiscal year but I’m trying to understand why you don’t anticipate more of a rebound in the back half in Biosciences.

Vincent A. Forlenza

Well here’s our understanding of the grant process because we do expect to see a benefit from it but we expect that to occur starting in the first quarter of FY ’10. In the grants there’s a challenge grant program out there and the money is going to be allocated or the grant’s going to be decided upon in September, which of course is right at the end of our fiscal year. And to your point we are seeing a very large increase in the request for quotations so we do think that people are putting off their orders and there is a significant timing issue going on here.

Jon Wood - BAS-ML

Last one for David, can you just comment broadly on M&A pipeline if the conditions, valuation or size have changed at all in the last three months?

David V. Elkins

I think generally speaking, you know, it toughened with valuations. I think there could be opportunities as we talked about before, if people become cash constrained and we see new technologies better aligned with our strategic drivers we’re going to capitalize on that. We continue to actively look in the marketplace for those opportunities so we’ll keep you guys abreast if anything comes about.

Operator

Your next question comes from Bruce Cranna - Leerink Swann LLC.

Bruce Cranna - Leerink Swann LLC

Just on Diagnostics can you guys give us actual or quantify the flu impact on a dollar basis in the quarter?

Vincent A. Forlenza

$4 to $5 million, 1%.

Bruce Cranna - Leerink Swann LLC

And you mentioned BACTEC maybe just not meeting your expectations. Any color there? Is it just hospitals being a little tighter on the purse strings or are you guys seeing other issues?

Vincent A. Forlenza

No, we saw a longer selling process. As this hit we were getting a lot of requests for quotations and the process took longer and the sales didn’t start to come in until March. And so that was very back end loaded. That was what the issue was.

Bruce Cranna - Leerink Swann LLC

And then you guys were talking about Bioscience, I guess in OUS trends versus U.S. I’m curious just looking at the numbers OUS clearly there’s no FX going on here. Is that just overwhelmingly the effect of sales into China or what’s going on such that reported growth is a point above FX neutral?

Vincent A. Forlenza

The growth is fairly strong across the board in Biosciences internationally, with just a couple of very minor exceptions. But are you asking an FX question?

Bruce Cranna - Leerink Swann LLC

Well I’m just looking at by segment, yes, if you look at the international business obviously you’re losing 6 or 7 points of top line in Medical and Diagnostics yet and in Bioscience you’re actually picking up some growth. So I’m trying to figure out from a currency – you know, where geographically are you so strong that you’re not being affected by euro and yen?

David V. Elkins

Bruce this is David. You know this phenomena happened last quarter as well and you’re talking to the Biosciences business international, correct?

Bruce Cranna - Leerink Swann LLC

Yes.

David V. Elkins

And why you’re not seeing the comparable impact of the foreign currency?

Bruce Cranna - Leerink Swann LLC

Yes.

David V. Elkins

The reason for that is our hedge, and it’s the way from an accounting perspective that our hedge has to be allocated and then the hedge in order to be accounted the way we’re accounting for it, you have to – it’s on U.S. based sales abroad. So in almost 100% of our international sales within the Biosciences business is from the U.S. so therefore a greater portion of the hedge gets applied to the Biosciences business. There’s nothing unique about the Biosciences business from where the product is sold.

Bruce Cranna - Leerink Swann LLC

And lastly for me on genome, Vince thanks for the dollar number there, and I’m kind of curious listening to your competitor talk about this space they claim to be taking share, etc., and I look at your quarter and the $14 million number doesn’t seem to really jive with that kind of commentary. So I’m curious, do you think that it’s such that the market’s growing faster that you can lose accounts and still show this kind of growth? Or would you say that their commentary that they’re taking accounts [muse] is inaccurate?

Vincent A. Forlenza

Well I think a couple things. One is that there is a royalty payment in our sales for this quarter of $2 million. So you have to look at it on a continuing basis as 12. That’s the first thing. The second thing is we are continuing to increase the number of our accounts, so I don’t think they are taking our accounts. That’s not what’s going on, but I think if you look at market share from a dollar value they are now slightly ahead of us.

Operator

Your next question comes from Sara Michelmore - Cowen and Company.

Sara Michelmore - Cowen and Company

Just a question back on Pharmaceutical Systems, I know it’s a bit early to talk about fiscal 2010 but kind of just curious here if we’ve gotten most of the negative comparisons at least behind us and should we think about this being a growth business in fiscal 2010? If you can comment there. Thanks.

Vincent A. Forlenza

Sure. We’re not going to guide for the business yet for 2010. You know, we’re going to see how the balance of this year goes. You know we’re confident we’re seeing returning growth in this business in the second half of the year and as that unfolds then we’ll get back to you later in the year with that.

Sara Michelmore - Cowen and Company

But maybe just on the pipeline there, this growth rates that you’re talking about for the second half of the year you’re not depending on any kind of new products or anything like that to hit those numbers? Is that correct?

Vincent A. Forlenza

These are core customer, core product areas.

Sara Michelmore - Cowen and Company

And can we get just a quick update on Protec in Phoenix?

Vincent A. Forlenza

Sure. So Phoenix on a performance basis was up just about 10% versus for the first half – I’m sorry. One second. Year-to-date it’s up 18% and 10% for the quarter. I was right. Okay? And you want also Protec?

Sara Michelmore - Cowen and Company

Yes.

Vincent A. Forlenza

So Protec was up – the molecular business was up 10.8%.

Operator

Your next question comes from [Kay Neki] – Collins Stewart.

Kay Neki – Collins Stewart

Would you speak to the wholesaler destocking in diabetes, is that more specific to a strategy of a specific distributor and why should we think that you’re not vulnerable to destocking either by wholesalers or by hospitals in other product categories?

Vincent A. Forlenza

Okay, so I’ll make a first overall comment. You know, as the last couple of quarters have unfolded we have seen destocking in other businesses during the last six months or so and we have seen that stabilize in the other businesses. So as we track the number of inventory days we see out there, it gets to the point where they start to have service problems and then they start to back away from that. So that’s the overall trend that we’re seeing. I’ll ask Bill to make a comment on the diabetes care situation.

William A. Kozy

I think that covers the primary message. The second message as it relates to the timing of the second quarter is that we did have some large restocking orders that took place in the second quarter of ’08 that created an inventory unfavorable comp. And they were at one of the major U.S. chains and also there was a home healthcare loss that took place. So those were also factors in the timing of the second quarter.

Kay Neki – Collins Stewart

With respect to SSG&A you’ve demonstrated good expense management. As we think about the longer term moving into next year, you talked about pulling back some incentive comp so as we think about that longer term where you might reinstitute that do you have other specific initiatives that could offset that so we could see continued expense management and de-leverage from that?

Vincent A. Forlenza

Yes we do. We think that we have multiple levers that we can follow in terms of expense management and compensation is at the core of our strategy. You know, we have a number of programs that we have started looking for leverage across our expense base. And I can point to such areas such as our transportation networks and rationalizing them. We can look at such things as shared services. And we look at shared services in G&A. We look at our functions and how they are delivering those services and what we can do to share on a worldwide basis. So we’ll go way after reducing overhead. In the meantime we’ve started an upgrade of our ERP system and this is going to enable a lot of this sort of work where we can get this leverage. So it’s not primarily a compensation driven strategy.

Operator

Your next question comes from Michael Weinstein - J.P. Morgan.

Michael Weinstein - J.P. Morgan

If we can let’s circle back to the Biosciences and if we looked at the first quarter the flow business loop was very very strong and on the first quarter call the confidence level that Bill had had at the time in terms of the sustainability of the business seemed high. And now we fast forward to a quarter later and obviously it was a very weak quarter given what’s happening with your customer base. So let’s talk about the dynamic of how quickly the business turned over the course of this quarter, your visibility into this business. A quarter ago your guidance moved to 9% growth for Biosciences [cost occurrences], now you’re at 3%. Obviously there’s a huge change in the dynamics for that segment of the company. Talk about how quickly it changed, what your visibility is from here and then we’ll follow up with just getting into a little bit more on your customer base. Thanks.

Vincent A. Forlenza

It changed very very rapidly so as you mentioned we had a very strong first quarter, and we had a nice backlog of orders going into the second quarter and then as the stock market went down and we saw these endowments decrease, you know what we saw happening with both hospitals but even more so academic centers, even if they had a grant putting their order on hold. So it changed very very rapidly. We still continued to get some requests for quotations but they were not moving through the system.

And then what we did see was after the Obama stimulus plan was announced and they started to figure out how they would spend the money towards the second half of the second quarter, we saw requests for quotations moving up. So it was a significant difference. You know, the U.S. of course is where that significant difference was. You know, in the first quarter it was up 10% and then down 9 in the second quarter. So those kinds of swings are unprecedented. So what we’re looking at, we’ve taken that into account and as I said we’re being conservative. We’re seeing a large increase request for quotation and we’re not building them into our guidance for the year. We’re assuming that that’s going to hit in 2010.

Michael Weinstein - J.P. Morgan

Vince, when I think about the business I always think of the flow business as being about two-thirds research and is that the right mix in your customer base?

Vincent A. Forlenza

Yes.

Michael Weinstein - J.P. Morgan

And if I think about the different issues that your customers are facing, can you just separate the research – the issues that your research customers are seeing from – I want to separate out the biotech issue of emerging biotech not having funding because that’s been an issue, but that probably doesn’t get better in the short term. If we separate out that, the rest of the business is where you’re seeing the “pick up” if you would? I assume you’re not seeing it from the biotech side.

Vincent A. Forlenza

Yes, it’s coming from the research side. I’ll be real precise. The research piece of the business was about 75% in the second quarter, 21% was clinical and about 4% was other. The research would include the biotech guys. Now part of that U.S. downturn was not in the flow cytometry business. It was actually in the labware and it was a $3 million decrease in advanced bioprocessing. And what happened there was we had a large customer, which I will not name, but who had a large drug where they changed the dosing regimen. And they changed it down. And that left us and the customer with a large amount of inventory that was going to take them the entire year to work off of. So if you look at about a $10 million decrease in the U.S., $3 of it about 30% was that specific issue.

And then in terms of softening from quarter to quarter, you know, the growth went down in the research segment by about $10 million worldwide.

Michael Weinstein - J.P. Morgan

But just for that one time, that one time specific customer should have labware down to [inaudible] next quarter?

Vincent A. Forlenza

Hang on one second. No, it’s spread over. It’s spread over the – it’s going to continue in the second half of the year and not bounce back until ’10.

Michael Weinstein - J.P. Morgan

Last question is a financial question. We just want to make sure that we’re understanding the hedging programs that the company has in place, because I think it’s the first time where we’ve seen the hedges had an impact on the sales line so what looked like the currency impact that we would have seen this quarter was different, just optically on the sales line because of the hedges. And want to make sure we’re thinking about it right for the back half of the year. So in this quarter in particular why did you have that hedging offset on the sales line but you won’t have it in the third and fourth quarters just based on your guidance? I just want to understand the mechanics a little better. Thanks.

David V. Elkins

The hedging impact on the sales line was the same in the first quarter as well as in the second quarter. It was around $35 million.

Michael Weinstein - J.P. Morgan

So the hedge impact from the hedges you’re saying was $35 in the first quarter, $35 in the second quarter and then for the back half of the year what is it supposed to be?

David V. Elkins

It’ll be roughly the same. It will fluctuate based upon actual currency movements.

Michael Weinstein - J.P. Morgan

But as of right now you’re saying the same for the back half of the year?

David V. Elkins

Yes that’s correct.

Operator

Your next question comes from Kristen Stewart - Credit Suisse.

Kristen Stewart - Credit Suisse

I was just wondering with Bioscience obviously the outside the U.S. business has held up real nicely. I guess, what gives you confidence that we can see a potential slowdown in international markets within this emphasis?

Vincent A. Forlenza

Okay, so there’s really two pieces, one of which is let’s call it the research market and what the organization is telling us that they see the funds already allocated for these instruments. You know, they were in the budgets as they were put together going into this fiscal year. And then they are taking into account some risk in the emerging markets. They saw a little bit of that in the first half. I guess if there was any more exposure it would be if any of those government programs slow down. Gary, do you have anything else to add to that?

Gary M. Cohen

I would add that you have the growth in the clinical side of Biosciences continuing in the emerging markets. You know China is expanding its health programs. They recently made an announcement that they’re planning to expand health access to 90% of the population including rural populations over the next three years. They’re investing over the next three years the equivalent of a full year’s additional investment in the health system to allow for that access. And as that expands, particularly around areas like HIV also areas outside of Biosciences like TB, you know we’re in a position to benefit from those investments. We’re also getting very good growth in Biosciences in Latin America and again a lot of that is clinical applications which are less prone to the funding factors that would impact the research applications.

Kristen Stewart - Credit Suisse

And then I guess along the lines of destocking you addressed within the Pharmaceutical Systems did you see anything notable across any of the other businesses whether there be the medical, surgical within BD Medical or even Preanalytical systems?

Vincent A. Forlenza

Well in Preanalytical during the quarter we did initially see some destocking but it was a mistake by the distributor and it bounced back, so it neutralized itself in the quarter. But other than that, one second, Bill’s got a comment.

William A. Kozy

In Medical it was a Q1 impact, less of an impact in the medical surgical business but medical surgical impacted in Q1.

Vincent A. Forlenza

And we have seen some in microbiology in Q1 as well.

Kristen Stewart - Credit Suisse

And then I guess just on the gross margin would you help us just kind of understand the year to year change, just specifically what would you allocate toward the impact of foreign currency? What was kind of raw material cost plus or minus in the quarter? And kind of how should we think about raw material costs for the balance of the year?

David V. Elkins

Yes I think Kristen the best way to think about that is for the half year there was about 230 basis points improvement based upon FX, the hedge and the FX translation that we had in the first quarter that inventory impact I talked about in the first quarter. That was set off in the first half by raw materials, some writedowns and some start up costs that we had as well as product mix. And within that is productivity improvements. So that gets you to the 150 basis point change in the first half results.

What we’re saying going into the second half is that that 52.7 that we gave a range of where we think we’ll be in the second half of the year, and as I said earlier there’s going to be more of the currency impact in the second half of the year. So there’ll be less favorability there but as we look at purchase price variances and our continued productivity improvements, that’s what we have confidence in the gross margin that we guided on.

Kristen Stewart - Credit Suisse

And were raw materials positive or negative this quarter compared to –

David V. Elkins

Raw materials were slightly negative when you threw everything in.

Kristen Stewart - Credit Suisse

And then anything else with other expenses? Can you break that out a little bit?

David V. Elkins

Any other expenses in margin or?

Kristen Stewart - Credit Suisse

Any other expense line item?

David V. Elkins

In other income?

Kristen Stewart - Credit Suisse

Yes.

David V. Elkins

Yes, the other interest income I think there’s really no major movement year-on-year. For the full year, sorry for the half year results the biggest driver there is our executive deferred compensation which has an offset up in SSG&A which we talked about in the previous quarter. And you know other expenses, there wasn’t much movement there.

Operator

Your next question comes from Peter Lawson - Thomas Weisel Partners.

Peter Lawson - Thomas Weisel Partners

On the molecular Diagnostic business, I wonder if you’d give us an indication of the traction of [inaudible] and the appetite for capital spending in that environment?

Vincent A. Forlenza

Sure. So [c-defaseal] we had our first orders in this quarter. We are running quite a few evaluations at this point in time and the way those evaluations work is that they compare to the traditional methodology, the EIA. They run the molecular and then they run a gold standard and look for where you get discordant results and we are seeing excellent performance out of the c-defaseal product and we’re seeing a lot of enthusiasm for the customer, so we’re very encouraged with what we’re seeing out of these evaluations. So it’s kind of a typical procedure for a lab to go through.

Peter Lawson - Thomas Weisel Partners

And then on the appetite for capital spending?

Vincent A. Forlenza

Oh, on the appetite for capital spending. Well what we’ve seen is while we only had a small amount of instruments that were being sold, everything’s moved to reagent rental in that segment of the marketplace. A highly reagent rental at this point in time. So backed away from just buying it themselves.

Peter Lawson - Thomas Weisel Partners

And then into TriPath, what’s the traction for that and testing volume and any changes in competitive dynamics?

Vincent A. Forlenza

No changes in competitive dynamics. We’ve – it grew about the same as it did in the first quarter so really not much else to say about it at this point in time.

So we’ll take on more question.

Operator

Your last question comes from James Baker - Neuberger Berman.

James Baker - Neuberger Berman

I wanted to repeat that question on other expenses because that was negative $5.7 million in this quarter which is actually the largest other expense item for a quarter we’ve seen in many years, so could you give us some color on that?

David V. Elkins

Yes, I think the biggest thing there is the lack of $3 million from geno last year in 2008, so it’s a year-on-year comparison versus last year.

James Baker - Neuberger Berman

But I mean sequentially – I mean, in general was there a write off of an investment? Was there a write off of something or other? Because that’s very very rare that it’s that large.

David V. Elkins

Interest income on the genome [asker].

James Baker - Neuberger Berman

Well interest income isn’t accounted for in interest income? It’s in other expense? Is that what you’re saying?

David V. Elkins

Yes. Yes, for that transaction it was.

James Baker - Neuberger Berman

But normally it isn’t a big negative number. That’s what I’m trying to drive at here.

David V. Elkins

James, what I can do is I can go through that one. I mean, it’s such a small number in overall things, I’ll follow up with you in detail after the call.

James Baker - Neuberger Berman

But that would not recur in future quarters. Is that what you’re saying? We don’t expect to see –

David V. Elkins

No, that’s correct. You will not see that in future quarters.

Vincent A. Forlenza

All right. Well thank you all very much for joining the call and we’ll talk to you again soon.

Operator

Thank you. This does conclude today’s teleconference. Please disconnect your lines at this time and have a wonderful day.

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