Baxter International Inc. Presents at Goldman Sachs 34th Annual Global Healthcare Conference, Jun-11-2013 02:40 PM

Jun.11.13 | About: Baxter International (BAX)

Baxter International Inc (NYSE:BAX)

June 11, 2013 5:40 pm ET

Executives

Robert J. Hombach - Chief Financial Officer and Corporate Vice President

Ludwig N. Hantson - Corporate Vice President and President of Bioscience

Mary Kay Ladone - Vice President of Investor Relations

Unknown Analyst

We'll go ahead and get started with the next presentation. But before we begin, we're required to make certain disclosures in public appearances about Goldman Sachs' relationships with companies that we discuss. The disclosures relate to investment banking relationships, compensation received of 1% or more ownership. I'm prepared to read disclosures for any issuer now or at the end of this presentation if anyone would like me to. However, these disclosures are available in our most recent reports available to you as clients of our firm. In addition, updates to those disclosures are available by ticker on the firm's public website at gs.com. In addition, disclosures applicable to research with respect to issuers, if any, mentioned herein are available through your investment representative.

So with that, I want to go ahead and welcome the management team from Baxter. We have a big group here today. We have Bob Hombach, Chief Financial Officer; Ludwig Hantson, Head of the BioSciences business; and Mary Kay, Vice President of Investor Relations. So I say it's for every presentation that this is meant to be interactive. And so, feel free to raise your hand, but I have reserved plenty of questions to keep us going otherwise.

Question-and-Answer Session

Unknown Analyst

So maybe we could start off with Gambro. I think there was a disclosure this morning from the EU regulators. And maybe just any updates with respect to expected timing of the deal closing.

Robert J. Hombach

No updates. The announcement today really just verified that the EU Commission has jurisdiction over the review of the transaction. So they'll go through the normal review process here. And as we mentioned recently, we expect an early Q3 close and no change to that.

Unknown Analyst

Okay. And then that July 8 date that they put out there, is that of any significance or is that more of -- is that a deadline or how should we think about that date?

Robert J. Hombach

That's their normal time frame once we've officially submitted for approval. But while Europe is very important to this process, there are a couple other jurisdictions around the world that we also need to get regulatory approval on as well. So again, that will be an important one, but not the last one.

Unknown Analyst

Okay. And then, the -- well, let me just stick with Gambro for a second here. The guidance that includes about $800 million of Gambro for this year, does that assume a June 30 close? Is there any risk that, that -- is it that if we think about every month it's worth x millions of dollars? Is it pretty linear?

Robert J. Hombach

Yes. And we assume a midyear close. So to the extent that it's a bit later that, that will have some impact on the bottom line. And as you know, our initial guidance called for some dilution this year in the $0.10 to $0.15 range, primarily driven by noncash intangible amortization, which at this point, is an estimate. We won't have the final number there until we actually close the deal.

Unknown Analyst

And then strategically, as we rewind to the analyst meeting, you said a lot about PD being a focus in emerging markets. It also sounded like there was, not necessarily a reprioritization, but a pretty big focus on the BioScience, specialty therapeutic side of the business. And then a couple months later, there's a pretty big transaction that was non-PD and non-biosciences. So strategically, maybe just talk to us how you saw the Gambro opportunity fitting in. And was there anything that you learn that might have changed your view from the analyst meeting?

Robert J. Hombach

No, really no change. And we continue to be very focused on optimizing the opportunities in the BioScience business and in PD. And we view the Gambro acquisition as very complementary to our existing business and one that we can drive the combined companies together very strongly, particularly in emerging and developing markets. So really, no change in strategy or focus, but a very complementary addition to the portfolio.

Unknown Analyst

And then some of the -- you did put out a revised long-range plan last December when you announced the Gambro deal, and also provided some perspective on what you thought Gambro could add over time. As we think about those, where are -- there seem to be synergies across a lot of different line items. So you have -- there's probably some revenue opportunities in terms of distribution channels. There's obviously some costs because you have a complementary business. I mean, how should we think about the phasing in of those different types of synergies?

Robert J. Hombach

Well, you're right. We do think there are a number of commercial synergies across the 2 organizations on a global basis. Baxter is very strong, particularly in Asia Pacific and Latin America with our existing PD business, areas where we think we can further drive their somewhat underrepresented portfolios today. As it relates to cost synergies, which we feel very strongly about and have good line of sight of how we're going to achieve those, we've talked about approximately $300 million of cost synergies that we achieve by the end of 2017. And 80% of that, we would get done by the end of 2015. Of that $300 million, about 60% of it relates to operational, manufacturing, supply chain, procurement and so on, where we do see quite a bit of overlap between the organizations and many leverage points. And the remaining 40% would be in the normal back office, G&A type functions.

Unknown Analyst

And I think the other dynamic of the LRP, I don't know if the number is in front of you, is that there's an expectation for a lift in the organic growth rate and there's some timing issues when you look at '13 to '17. But still, I think you communicated an expectation that the underlying growth of the business could also improve with Gambro. Does that come just from marrying the distribution channels together that each of you have and product categories or any other expectation?

Robert J. Hombach

Well, yes. It's a combination of a number of factors. from a total Baxter perspective, we did talk about an acceleration across our 5-year long-range plan with the contributions from our pipeline becoming much more meaningful as we go forward than what we've seen historically, really kicking in primarily in 2015 and forward. We will see some new product launches in 2014, but the bigger impacts, we'll start seeing a little bit later in the LRP. As it relates to Gambro, again, we think due to a number of factors, they've underperformed from a top line perspective, some capacity constraints within their dialyzer business, some impacts from an earthquake in -- affecting one of their main manufacturing facilities in Italy last year and so on, which they're now in the process of recovering from. But again, a number of synergies, both in the traditional dialysis segment as well as their CRRT business, which is continuous renal replacement therapy, where they're the market leader on a global basis. Today, it's about a $300 million business for them. That is a channel in the acute care space in hospitals, one that we're very strong on a global basis. And other than the CRRT portfolio, Gambro really doesn't have any presence in. So we see a number of areas where the combined organization has very complementary portfolios.

Unknown Analyst

Okay. Maybe switching a little bit to BioScience since we have Ludwig here with me. And one, obviously, spend some time on the pipeline because there seem -- we seem to be getting close to seeing some data and a number of potential filings, but also sort of a little bit on the core business, and maybe just get your thoughts on the plasma protein markets, starting with IVIG and then titrate down from there.

Ludwig N. Hantson

Good. So what we see is the market continues to be strong. So we see a strong global and as well as U.S. demand, which is close to 10% for the U.S. What we're trying to do is to move this business from a -- you could call it interchangeable transactional business to a transformational business. With that, we tried to change that because of new indications and new formulations, as well as with that, we see a change in channel. So let me explain what I mean by that. First of all, we're moving from an IV to subcu. We launched our subcu in U.S. about 18 months ago and that subcu launch is going very well, helps us to differentiate from the competition. With that, we also look at changing the channel from a dominant hospital channel to a SPP channel towards home care. In HyQ, we're positioned as well, both in Europe as well as in the U.S. to differentiate from the competition, but also to move from a hospital to a home care delivery system. So we got the approval in Europe for HyQ last month. We're looking at shipping the first product next month. As far as the U.S. is concerned, we continue to dialogue with the FDA and it's a healthy dialogue. It's more than one discussion. I know we announced that we would have a face-to-face meeting with the FDA around this time. I would say it's an open dialogue, so we're going back and forth, which is great. And I will be able to give you more details on what we are discussing and what it means, I would say, by our earnings call in July. So overall, the market is doing strong. As I said, we continue to differentiate our products and it should with the new product launches. So the new formulation launch, they should also enable us to penetrate the market even stronger. Then from a volume perspective, 2013 is a little bit a transition year. Well, we said at the beginning of the year, our volume growth will be around mid-single digits. We're coming out of the expansions in all [ph] L.A., and we will see the impacts later this year. And then our expectation is that as far as volume is concerned, we will be able to grow with the market, our market which is 6% to 8%.

Unknown Analyst

And that 10% number in the U.S., I mean, it's a great number, but it sounds very high for a relatively mature therapy. I don't know what else that's been around as long as IVIG grows 10% in units and that's growing almost 10 points faster than where you guys sort of thought it was at the trough in 2010. Maybe sort of what's really changed over the past couple of years, and why is demand so strong, at least from your vantage point?

Ludwig N. Hantson

Yes, I think there are different things here. First of all, you see increase in indication, so you see penetration in new disease areas. I think MMN is one example on top of the CIDP and neurology space. The number two is subcu is the driver here more than IV. We saw all business, you see that IV is more a side business. The growth comes from subcu. Subcu is still a small piece of the market, it's still single digits, but growing substantially. So that's another piece of the pie, so it's -- I would say it's multidimensional. Diagnosis is still 30%. So there's a significant amount of potential growth in these areas. So that's what we're seeing. So it's multidimensional that's driving the demand.

Robert J. Hombach

Yes, I would just add, volume is growing faster than patients because neurological indications use twice as much products. Subcu formulations use more products than IV. And so you'll see a little bit of a disconnect there.

Unknown Analyst

And then the Alzheimer's trials, any appreciable impact on unit demand or too small?

Ludwig N. Hantson

Not really. We didn't see anything on the demand's impacts. As you know, we're going through the analysis on the biomarkers now. So we announced the clinical data last month. The questions that we're trying to get from the biomarkers data is, first of all, does the product go into the brain? Number two, does it have an effect on antibody formation? Number three, does it have an effect on amyloid plaques and neurofibrillary tangles. And number four, what does it do on brain atrophy? So we'll try to get answers to those 4 questions, and we will be communicating the data in July in Boston.

Unknown Analyst

And then how about the markets outside the U.S.? I was at the IPTC meeting in March. And I've been in that meeting every year for the past 4 years, and you get pretty different feedback each of the past several years that we've been there. At least it sounds like European volumes were actually pretty good, but also that price have gone from a very negative position to a little bit less negative and in some countries, more favorable. Is that consistent with your assessment?

Ludwig N. Hantson

Yes, so there are a couple other things I would add to your question. First of all, U.S. is, for us, the most strategic country. So we have a geographical allocation process in place, where U.S. is our #1 market. So that means is that we've made a decision to be in countries in specific countries and to be -- not to be in other countries, so that's number one. Number two is, as far as price is concerned, HyQ, since you're talking about Europe, since we have the HyQ approval now, gives us an opportunity to look into a premium price. And so we're looking into, as I've said, we're launching a list of first wave -- a list of Nordic countries, so Scandinavia, The Netherlands, U.K., Germany next month. So that gives us an opportunity to not only look at volume, but also look at price.

Unknown Analyst

And are those countries where you're still -- are there any risk of any backlash from countries saying, "Hey, you guys walked away from us with -- on your product allocation strategy, so why should we adopt HyQ?"

Ludwig N. Hantson

I wouldn't say so because HyQ is a differentiated product. So if we are successful in creating the market and differentiating our product, we will move, as I said, from a transactional, which can be very much tender-driven, price-driven market to a differentiated product in a market that could be transformational for the patient. So I don't think so.

Robert J. Hombach

And -- but even with our product constraints, we did maintain our presence in a handful of key markets. And those would clearly be the ones we'd focused our initial launch on.

Unknown Analyst

Got it. Okay. And then it seems like plasma, overall, I mean, its market has, obviously, consolidated quite a bit over the -- certainly, over the past 10 years, but even more so over the past 2 years and the market seems really strong right now. So if you have a view that plasma market has cycles, that might worry some people and say, "Hey, we're probably closer to peak than trough." But maybe you have another view, so when the market's highly consolidated, now is the chances of having these sort of supply shocks or pricing shocks are less likely. Where do you guys sort of fall out on it?

Ludwig N. Hantson

So -- yes, I wasn't around in 2003, 2004, but I know the story a little bit. I don't see any major events that might disrupt this market. In addition to that working on mark-to-market developments, the diagnosis, it's still low, as well as new medications, new formulations, I do believe that we can continue to be part of market development and to continue to have a strong demand, that's how I look at this. So I don't have a crystal ball but I don't see any major event coming that might change the picture.

Robert J. Hombach

Correct. Yes, and as we've looked back at history, it really has been pretty steady demand over time. And in fact, strengthening demand for some of the factors we talked about earlier. It's really been supply shocks, really the quality issues and other things that have caused issues in the past. And of course, as Ludwig mentioned, we don't have a crystal ball, but we've certainly positioned ourselves to -- with the shutdown of L.A. and bringing it back up in some of the additional agreements we've entered into to have more flexibility at very low cost from a volume standpoint going forward here.

Unknown Analyst

And is any risk if you look at what you're doing with Sanquin and then your build-out in Georgia then -- do you see yourselves opening new capacity, Cripples [ph] is opening new capacity. It looks like everyone is acting appropriately. When you asses it in a vacuum, as soon as when you add it all up its potential looks significant. Is there any sort of risk to industry dynamics if someone moves too quickly and gets cute with price again, like CSL did in 2010?

Ludwig N. Hantson

Yes, I cannot comment on the competition, so I'm not going to do that. But Sanquin and Georgia are part of our 6 to 8 demand growth plan, so we need those sites long term to grow at the market. There is no link with Alzheimer's. So our plans for Sanquin, as well as for Georgia, have not changed since we've released the clinical data.

Unknown Analyst

Okay. Maybe we can turn to the pipeline. I think there's actually a lot here. And what I was hoping to do is go through some of the bigger products, CAGR kind of view on addressable market opportunity, as well as sort of the time line, or at least the ones that I had in my mind where recombinant IX [indiscernible] factor, recombinant factor IX and VIIa, at least, lead to a start and maybe there are some others that you want to add.

Ludwig N. Hantson

No. So I'll start with 3 to 6, which is our recombinant IX, which we submitted last year. So we continue to work with the FDA. I think you've seen the data. It fits within our overall goal of the bleed-free world, which is the #1 key attribute for a hemophilia patients, where we have close to 50% of the patients who were bleed-free. So we are working towards a prophy indication. The timing for that is the second half of this year. And so my objective is by the time we have the National Hemophilia Foundation meeting, the Patients Association meeting in October that we have this product, hopefully, on the market. Keep my fingers crossed. Differentiation first products with potential prophy indication, so that's #1. So the market size is $1 billion plus. I think it's $1.1 billion globally in the U.S., BeneFIX is, I think, selling in about $3.50. Then the next one, which you didn't mention is our OBI-1, which is for acquired hemophilia. We're looking at a potential submission before the end of this year. The market opportunity, we discussed the number of patients, at least in acquired hemophilia, is about 500, 500 to 1,000 in the U.S., more of course globally. So the time line for that if we're successful, we're looking at -- since this -- fast track with the FDA, we're looking at potential launch sometime next year. The third one you mentioned is our recombinant VII. Before we go into recombinant VII, I want to highlight FEIBA prophy, which again within our overall goal of a bleed-free world, it's reduced the number of bleeds for the most-difficult-to-treat-patients by more than 70%. We submitted the BLA beginning of this year, so we're looking at, hopefully, an approval sometime around the end of this year. So that market opportunity is $1.7 billion, our recombinant VII, 817. So we started our Phase III. The Phase III will run this year and next year with a submission. [indiscernible], the market opportunity at this moment is $300 million. It's not really a prophy market because of the treatment opportunities. This will be the first recombinant product. Also the product that would be the first, you can call it the pure [indiscernible] product since our ratio is 100:1 versus recombinant factor VIII, so which gives flexibility for the product, as well as the flexibility potentially to move into prophy. So we have recruited our Phase III. We're now following up those patients. It's a 12-month follow-up, so we got the feedback from the European authorities. So it's a little bit longer than we wanted it to be, so we'll have that data next year. And then which one am I missing? I think I mentioned...

Robert J. Hombach

Long-acting recombinant factor 855...

Ludwig N. Hantson

Long-acting 855, so we're on Phase III. We started to treat our first patients. So we're still looking, as we said during our conference, a submission sometime next year. And maybe last one is our 335 [ph], which is hemophilia B program gene therapy. So we started to treat the first patients.

Unknown Analyst

So some of the time line commentary that dovetails well with what you said earlier about 2015 being a year of reacceleration of the top line, buy maybe we could -- first story 2014, go into your favorite topic, which headwinds and tailwinds, looking at next year maybe -- I don't know if you want to start the list or...

Robert J. Hombach

In a particular way...

Unknown Analyst

Not particularly.

Robert J. Hombach

And there isn't a list, I would say, but there has been in the past.

Unknown Analyst

Okay. So well, which probably is worth another question, too. And I think in the past, so you've been -- pension has been a headwind, currency has been -- well, probably depending on the quarter with sometimes good, sometimes not, sometimes a headwind. But I think there are few -- there are some discrete elements next year. There's one generalization that we need to be mindful of, pension may now be a tailwind, but what is sort of the -- maybe [indiscernible] limit at the end, the biggest things that we need to monitor?

Robert J. Hombach

And I'll answer the question, but I think we should come back to [indiscernible] and [indiscernible] as well because I think that's another pipeline opportunity we should spend a moment on. But as it relates to 2014, again, I don't want to spend too much time on that. It's a bit early there -- to talk about that. Obviously, things like HyQ approval in Europe and working through a path in the U.S. provide an opportunity there for potentially a new product launch FEIBA prophylaxis that Ludwig mentioned, as well as recombinant factor IX. So there's a number of early-stage launches there that will contribute to 2014. Certainly, we're looking forward to closing the Gambro transaction and getting into the integration process, driving synergies and accelerated growth in that business. As mentioned, given the direction of U.S. interest rates as we sit here today, they have, for the first time in probably 4 years, moved in a positive direction as it relates to pension. That has bitten us in the past late in the year because you don't really set the discount rate for pension until December 31, and that really drives the vast majority of the expense. But on a cumulative basis, over the last 3 years, we've incurred $175 million of headwind in our EPS related to pension. To the extent that starts to unwind and go the other way for us, which it very well could at current rates, in 2014, that could be a tailwind for us. On the headwind side, certainly, we will see a competition coming in to recombinant factor VIII, both at Biogen and Novo, and potentially Acta as well later in the year. And on them med products side, a couple of generic entrants, potentially one in SUPRANE, our anesthesia gas, and cyclophosphamide as well.

Unknown Analyst

And describe how big are those 2 products combined?

Robert J. Hombach

So SUPRANE is about a $250 million product globally, and cyclophosphamide is about $300 million.

Unknown Analyst

So is it fair to say 40% of that is in the U.S? Is it globally -- is it globally...

Robert J. Hombach

For SUPRANE? Well, for cyclo it's much more weighted towards the U.S., on SUPRANE a bit more -- it's probably more like 60-40...

Mary Kay Ladone

60-40.

Unknown Analyst

Okay. And you want to come back to [indiscernible]?

Robert J. Hombach

Yes, I think it's worth mentioning, [indiscernible] opportunity.

Ludwig N. Hantson

Sure. So yes, so we're very excited about this. In the next 12 months, you're going to see a lot of data coming out of the programs. So last week, there was a presentation on the all development in low-risk MDS, which showed that the -- about 50% of the patients were independent, transfusion-independent. Now we have the high-risk MDS group with the IV formulation. We finished the enrollment, so we're following up those patients. And the objective is to have the final data either before the end of this year or the first quarter of next year. Of course, it depends on [indiscernible] survival. It depends on the outcome of the patient. And then similar time lines for the pancreatic cancer program, which we will also have the data beginning of next year. So we're really excited about this opportunity. It would bring us into a space that is close to who we are. This is not the solid tumor space, although the opportunity could be there to move into solid tumor. It's a space that is in between hematology and solid tumors and oncology. So it's a Hem/Onc -- through Hem/Onc space. It's very similar to what we're doing with hemophilia, so we're really excited about that.

Unknown Analyst

I want to open up 2 questions. Veronica [ph]?

Unknown Analyst

[indiscernible] Sorry about that. Sorry, I'm going to try again. I was just asking about the warning letter that you -- that the FDA disclosed this morning for the North Carolina facility, and as you think about whether that has an impact on your business over the next 6 to 12 months? And just more broadly, given the various actions that we're seeing from the FDA on the enforcement type, I mean are your communications with them changing? Do you feel more pressure to comply? And as you think about costs related to compliance and good manufacturing practices, would those increase significantly in your view in the medium term?

Robert J. Hombach

Well, I would say really over the last 5 years, plus we've made significant investments to improve our quality process and systems across the organization and made very good progress and have very good dialogue with the FDA. As it relates specifically to the warning letter that we received that was posted today, no impact on our business here going forward. There were no adverse events or need to recall products. We continue to supply product to the marketplace. We've already taken a number of steps to remediate the issues that have been identified, and we're going to continue to work very expeditiously to address the remaining issues that they have.

Unknown Analyst

There are other questions? Okay.

Unknown Analyst

This kind of backtracks a little bit to plasma. But one of your competitors is spending heavily on R&D to try to expand the uses of albumin. And I'm wondering if you see opportunity there as well and/or if albumin is going to be forever relegated to kind of being a low-value protein. [indiscernible] speaking of Alzheimer's and cirrhosis and some other things.

Ludwig N. Hantson

I'm not sure if I heard the last bit of the...

Unknown Analyst

Cirrhosis, Alzheimer's, et cetera, for albumin.

Ludwig N. Hantson

Yes, so when you look at the albumin and you look at our business, I would say there are a couple of growth drivers there. First of all, there is geographical growth driver. I mean there are very high demands in some of the emerging growth countries, especially in China. So that's something that we see in our business. The other piece is we have an opportunity to continue to differentiate our product through Flexbumin products. So you'll see that we're trying to have that differentiate -- differentiating factor, broaden our current footprint into other markets. So I would say these are the 2 key growth drivers for us.

Unknown Analyst

And I think also to follow up on that question, are there any other potential uses for albumin that aren't currently on the label that you think might be interesting longer term?

Ludwig N. Hantson

I'm not going to speculate what the competition is going to do. So for us, we're going to focus on what I just mentioned.

Unknown Analyst

Okay. Maybe spend a couple minutes on capital deployment. And the last year, shortly after -- I think shortly after this conference here, you had a pretty big increase in your dividend, which is produced at the high end of the peer group, if you define the peer group as medical device in supply industry. You have reduced the buyback to just partially, as I say, with this acquisition, but maybe just sort of remind people on what you're capital deployment targets are? And when do you think the buyback can ramp back up again?

Robert J. Hombach

Yes, we've been very transparent about our capital allocation really going back 6, 7 years. And we followed a very disciplined approach about reinvesting in the business about 35% to 40% of the cash flow that we generate, returning a similar amount to shareholders through increasing dividends and buyback while preserving flexibility on business development to do primarily bolt-on acquisitions. Clearly Gambro was a unique situation. But recall for Gambro, we're using a combination of offshore cash and debt we just raised in the market at very, very attractive rates. So we're very pleased with how all of that has played out. To your point, we did increase the dividend 34% last year to get us up to approximately a 40% payout ratio. As we announced the Gambro transaction back in December, we did indicate that our intent was to continue to stay at 40%. We saw the 9% dividend increase we announced recently this year, and we expect to be able to continue that going forward. We did indicate that we're going to curtail our buyback program, which we've been averaging $1 billion plus over the last 6 years, down to about $300 million to $400 million over the next several years as we deleverage a little bit related to the Gambro transaction. We've talked about paying off about $1 billion through 2015. So I think as we get to 2015 and achieve that modest deleveraging that we're talking about, we'd be a better position to reevaluate, increasing the buyback up from that point. But again, very committed to the 40% payout ratio on the dividend.

Unknown Analyst

So it sounds like from an EPS growth standpoint, you'll now be more dependent on the operating side of the business because in the past couple of years, share repurchases have accounted for a very meaningful percentage of bottom line growth.

Robert J. Hombach

It certainly has been a contributor over the last several years. And as I mentioned, the pipeline that we're talking about here with all the new product launches and the Phase 3 trials that Ludwig just mentioned, we've been obviously building that up over the last several years. And now, we expect to be in a better position to drive operational growth through the bolt-on acquisitions we've done, including Gambro, as well as the pipeline going forward. And thus, buyback will be less of a contributor.

Unknown Analyst

So looking through, maybe working backwards into the P&L, tax rates have been going up. As you repatriate cash, your LRP does contemplate the tax rate, I believe, continuing to rise over that time period, any chance that, that was a conservative assumption or might peter off a little bit?

Robert J. Hombach

Well yes, we've leveled off in the 21% to 22% range for the last couple of years. And as we go forward here, with the financing of Gambro, we have an opportunity to think differently about cash repatriation from levels that we've done in the past. So there may be some opportunities there. Over the long-range plan, we had a couple hundred basis point increase over time, primarily driven by earnings mix built into our assumptions. So at this point, that continues to be our assumption, but again, some -- given some of the levers we may have with the Gambro acquisition, we may be able to do a bit better than that.

Unknown Analyst

Okay. And then elsewhere, on the P&L -- R&D is obviously in absolute dollars, has increased significantly over the past 5 or 6 years. Is that -- I know you probably don't want to use R&D as a point of leverage, but are you approaching a point whereby you feel like your annual spend is appropriate, and we might sort of see the ratios come down a little bit?

Robert J. Hombach

Well, we outlined in the long-range plan, because in fact R&D has been the source of deleverage over the last 5 years as we've ramped up and built up the portfolio and the pipeline that we have today. As we outlined in the LRP, though, we expect at about 7% of sales that it should maintain that ratio over the next 5 years. So it won't be a source of deleveraging, but -- and it won't be a source of leverage either. So we expect to continue to invest in the long-term future of the company through R&D.

Unknown Analyst

And last will be gross margin. I know -- I think this year, there -- you talked of I think 100 basis points of expansion in the base Baxter business and that's offset by the noncash amortization, as well as negative mix associated with Gambro, has this does become a rebasing year for the gross profit margin, then sort of all the dynamics that normally factor into gross profit become the drivers going forward?

Robert J. Hombach

Yes, the business mix has been a positive driver for us, offset by things like pension. As we mentioned earlier, almost 50% of our pension headwind of $175 million over the last 3 years has impacted the margin line, as has additional noncash amortization from deals we've announced prior. The primary source of deleverage in margin related to Gambro is the anticipated noncash intangible amortization as well. And we're evaluating how we're going to treat that from an accounting standpoint going forward here. Absent that, though, the business mix and launching new products and a higher than corporate average margins should continue to drive positive margin mix over time and offset the negative impacts from generic competition that we talked about earlier.

Unknown Analyst

And has Gambro -- forget the amortization for a second, but on an underlying basis, is renal not lower margin?

Robert J. Hombach

It is. It will be, there will be some slight deleverage from a business mix standpoint. Although I would say a couple of aspects of their portfolio, including their CRRT franchise and dialyzers are much closer to the corporate average than our current renal business.

Unknown Analyst

And then the last question, we are tight in time. I just want to get your thoughts on the -- you did sort of allude to it as cash EPS. I think that's what you're potentially talking about is how you're going to treat the accounting of the amortization. What are your -- you've not been a cash EPS company, but you're sort of...

Robert J. Hombach

Correct, correct. Yes, and it's something we've been evaluating for some time. Today, in 2013, before Gambro, we had about $100 million of noncash intangible amortization related to recent business development. Gambro would have another $140 million, so now you're talking about almost 150 basis points of a drag on margin, which I think relative to our peers, is a pretty significant drag. And so that's one of the things we're considering as we think about how we're going to report earnings and provide guidance going forward. And I think as we close the transaction in the third quarter, we'll take a firm view on that.

Unknown Analyst

Okay. With that, we are out of time. But as always, very much appreciate your participation here and I look forward to speaking with you in July if not before that.

Robert J. Hombach

Great.

Unknown Analyst

Thank you.

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