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China Medical Technologies, Inc. (CMED)

Q1 2007 Earnings Conference Call

August 17, 2006 8:00 am ET

Executives

Charles Zhu - Vice President, Business Development and Investor Relations

Sam Tsang - Chief Financial Officer

Tip Fleming - Investor Relations Advisor from Christensen

Analysts

Vickie Chen - UBS

Graham Tanaka - Tanaka Capital

Joy Wang - Goldman Sachs

Chang Qui - Forun Technology Research

Matthew Buten - Sapphire Capital

Joy Wang - Goldman Sachs

Graham Tanaka - Tanaka Capital

Chang Qui - Forun Technology Research

Presentation

Operator

Good day, ladies and gentlemen, and welcome to the first quarter 2007 earnings conference call. (Operator Instructions) I would now like to turn the presentation over to your host for today’s call, Mr. Tip Fleming, China Medical’s investor relations advisor from Christensen. Please proceed, sir.

Tip Fleming

Hello, everyone. I am pleased to welcome you to China Medical’s first quarter earnings conference call. China Medical announced its June quarter results about two hours ago. A copy of the press release is also available on the company’s website at www.chinameditech.com.

Today, your speakers will be Charles Zhu, VP of Business Development and Investor Relations, and Sam Tsang, CFO. After they finish with their remarks, they will be available to answer your questions.

Before we continue, please bear with me as I take you through the company’s Safe Harbor policy.

The discussion today will contain forward-looking statements made under the Safe Harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements involve inherent risks and uncertainties. As such, the results may be materially different from the views expressed today. A number of potential risks and uncertainties are outlined in the company’s public filings with the U.S. Securities and Exchange Commission.

China Medical does not undertake any obligation to update forward-looking statements expect as required by applicable law.

As a reminder, this conference call is being recorded. A replay of this conference call will be available via webcast on China Medical’s website.

Now, let me turn the call over to Charles Zhu. Charles.

Charles Zhu

Thank you for joining us today. I would like to start off this call with a brief discussion of some new developments in the Chinese healthcare industry, and then I will turn the call over to Sam for a recap of our business and financial results.

The first development I would like to discuss is that starting early next year, the Chinese government has imposed an anti-corruption campaign that means to crack down the kickbacks that the hospital receives.

So far, we have not seen any significant impact on either our revenue or receivable collection, but we do believe that hospitals might start to become more inclined to delay the purchases of equipment upgrades during this campaign.

Since HIFU has a very low market penetration, most hospitals buying our system will be the first-time users, rather than those upgrading their existing products. For the most part, we believe that our HIFU machines will generate incremental revenue for the hospitals, so our HIFU business should be less influenced than companies that sell material medical equipment.

Additionally, and in the current situation, the leasing of capital equipment has become a more popular financing solution for Chinese hospitals, as it does not require a significant up-front capital outlay from the hospitals.

In addition, the investment payback period for our HIFU system is generally shorter. Some of our existing disputers that provide leasing arrangements will actually benefit from this situation.

The campaign should have no influence over our ECLIA business, since our ECLIA system is quite inexpensive and is not a significant purchase at hospitals. Once the system is placed in hospitals, the demand for reagents is closely tied with the patient volume, which is also not affected by the campaign.

In the longer term, we believe that a healthier and more transparent operating environment in the Chinese healthcare industry will be beneficial to industry leaders such as our company, who have technology advantages over our competitors.

Another significant topic that I would like to go over is the government investment plan for the development of a rural area health system. Last month, as part of the eleventh 5-year plan, China’s Ministry of Health announced that the government will invest RMB 21.7 billion to improve the rural healthcare systems. In particular, RMB 6.8 billion will be used for medical equipment purchases.

Our strategy for our ECLIA product has always been to target a mid- to small-sized hospitals in China, where less advanced enzymatic-based immunoassay, or ELISA, and radio immunoassay technologies need to be replaced.

We have designed our product specifications, distribution and service network based on this strategy, and we have already demonstrated considerable success in penetrating the lower-end market in China.

Sam will go over the financial details and breakdown of this success in a few moments.

I would like to conclude by saying that with the support of the government, the demand for basic diagnostic equipment could very well accelerate. As such, we will increasingly focus our diagnostic business by allocating more resources to our ECLIA R&D, and we will continue to look to expand our diagnostic product portfolio in order to benefit from the government investment spend.

Now I would like to turn the call over to Sam, our CFO. He will walk you through the financial results. Sam.

Sam Tsang

Thank you, Charles, and welcome, everyone.

As I believe most of you will have seen our Q106 results by now, we had a good quarter in what is typically our weakest of the year. Our net revenues and net income show strong year-over-year growth, though they declined sequentially because of the seasonality of our HIFU sales, and one other income and tax credit that we recouped in the fourth quarter last year, based on Q405.

The seasonality of HIFU sales is affected by the persistent patterns of hospitals in China for large capital equipment. Since most hospitals spend their capital budget at the beginning of the year, hospitals now have to go for several discussions, review and assessment process, and normally make their purchase decisions in the June or September quarter.

As such, our June quarter is typically the weakest quarter for HIFU sales, followed by a better September quarter and then March quarter. The December quarter is typically our best for HIFU sales.

For example, HIFU sales in Q105 represent only about 15% of the annual HIFU sales, compared to 31% in Q405.

The other factor, the one of other income related to the fee received from certain shareholders for whom we assist in arranging the secondary offering in March 2006, we do not expect to have similar income in the future.

The other one, the one-off tax credit in Q405 related to the tax concession that we received from the PRC Tax Authorities in February 2006, which reduced our income tax rate from 15% to 10%. The change was made effective starting in January, 2005.

Because of this factors that I just mentioned, we think it is most useful to focus on the company’s operating performance on year-over-year analysis.

Now I would like to talk about our Q1 performance in more detail. Net revenues were up 47.8% year over year to RMB 19.9 million, or $11.4 million. The company’s revenues are divided between our HIFU therapy system and our ECLIA system, which includes sales of the ECLIA analyzers and reagent kits.

Revenues from the sales of the company’s HIFU therapy system increased 30.7% year over year to RMB 48.1 million, or $6 million.

We sold 17 HIFU system units this quarter, compared to 13 units of Q105.

We expect to launch our third generation HIFU therapy system next month. This next generation machine will be equipped with temperature measurement technology, and its selling price will be at least 5% higher than the current second generation system.

Revenue from sales of our ECLIA system were up 73.3% year over year, an increase of 13.2% sequentially, to RMB 42.8 million or $5.4 million.

ECLIA revenue accounted for about 47% of the total revenues in this quarter. The proportion of ECLIA revenue to total revenue will be lower in the following quarters as HIFU sales pick up. We estimate that ECLIA revenue will account for about 40% of our total revenue in ’06, which is higher than the 33.6% last year.

For ECLIA analyzers, we sold 292 units this quarter, compared to a 208 units in Q105 and 283 units in Q405. We expect the sales of analyzers to stabilize in the following quarters, as our accumulated sales of analyzers are approaching 2,000 units.

The new semi-automatic ECLIA analyzer will be launched towards the end of our Q2, or early Q3, which will be equipped with new functions. The production cost for this new analyzer will be much higher than that of the existing analyzer.

The key driver in ECLIA operations is the recurring revenue from the sales of reagent kits. This is the first quarter we have seen reagent revenue exceed analyzer revenue as the reagent sales represent about 54% of total ECLIA revenues.

We expect this trend to continue because of the increasing number of analyzers that have been installed, and the great number of reagent kits that have also been introduced. We currently sell 56 types of reagent kits and have an additional 30 in development.

Gross margin decreased slightly to 70.7% this quarter, compared to 71.1% in Q105, but increased slightly from 70.1% in Q405. We believe the gross margin may reduce slightly in the following quarters with the introduction of the new semi-automatic ECLIA analyzer.

Our operating expenses more than doubled year over year, but decreased 13.9% sequentially to RMB 21.6 million, or $2.7 million. The year-over-year increase in operating expenses was primarily due to the headcount additions as a result of the expansion of operations, costs related to the continued product development, increased marketing activities, and expenses incurred as a result of becoming a top company.

The sequential decrease was because we book the expenses related to a new employee performance bonus in Q405, which was approved by our compensation committee, established before our IPO in August 2005. We started to accrue a quarter of our estimated annual performance bonus in Q106 in this quarter.

Operating expenses as a percentage of revenues increased to 23.8% for this quarter, compared to 22.5% in Q405, because of lower seasonal HIFU sales in this quarter. We estimate that annual operating expenses may be approximately 20% of annual revenue in ’06, which is higher than the 18.3% in ’05.

We have one-off other income of RMB 5.9 million that came from certain shareholders in Q405, but no other income was made in this quarter.

Interest income increased 6.9% sequentially to RMB 7.7 million, or $1 million, mainly because of an increase in bank interest rate.

The income tax expense decreased 8% to RMB 4.6 million or $0.6 million for this quarter, compared to Q105. We had a tax credit in Q405 because our PRC subsidiary received an approval from the tax authority in February 2006 for the extension of his income tax concession, which reduced the income tax rate from 15% to 10% for a period of 3 years, starting from January 2005.

Net income increased 52% year over year to RMB 45.9 million, or $5.7 million.

Our cash flow from operating activities was RMB 46.5 million, or $5.8 million for this quarter. At June 30, 2006, the company’s cash balance was RMB 877.9 million, or $109.8 million.

We are quite happy with our relatively high cash position, especially since we have low bank borrowings. We think this will give us the necessary possibility to invest in our organic growth, while also leaving the door open for potential acquisition opportunities.

We have 27.36 million outstanding in equivalent ADS, which means our cash per ADS comes out to about RMB 32, or $4 per ADS.

Accounts receivable increased 8% sequentially to RMB 168.3 million, or $21.1 million. We believe the accounts receivable balance is in a healthy condition.

Looking forward to the full 2006 fiscal year, we believe annual net revenues will be between RMB 521 million to RMB 543 million, representing a growth rate of about 40% to 43%. We estimate the growth rate of ECLIA will be much higher than the growth rate of HIFU for ’06.

The estimated annual net income will be between RMB 263 million and RMB 271 million, representing a growth rate of about 32% to 36%.

Given the current 27.36 million outstanding equivalent ADS, the estimated earnings per ADS will be in the range from RMB 9.61 to RMB 9.90 per ADS, or $1.20 to $1.24 per ADS.

If we apply the same number of outstanding ADS to our ’05 net income of RMB 199 million, and eschew the one-off other income of RMB 5.9 million from the net income, our ’05 earnings per ADS will be RMB 7.60, or $0.88.

The above-mentioned estimated earnings per ADS represent a growth rate of about 36% to 40%.

This concludes our prepared remarks. Now, we will be happy to take your questions.

Question-and-Answer Session

Operator

(Operator Instructions)

Our first question comes from the line of Vickie Chen of UBS. Please proceed.

Vickie Chen - UBS

I have a question regarding ECLIA business. You might have mentioned it, but I missed it. In terms of kits and the reagent and the equipment sales, what is the revenue split in ECLIA?

Charles Zhu

ECLIA revenue is about 54% of the total ECLIA revenue this quarter.

Vickie Chen - UBS

Yes, but between the reagents and the equipments in the ECLIA segment.

Charles Zhu

Yes, so the analyzer sales, you see, go to 46% of the total ECLIA revenue.

Vickie Chen - UBS

Okay, analyzer, so reagent is 54% -- okay, I see.

One more question -- you mentioned a new semi-automatic, the production cost will be much higher. You previously talked about a fully automatic. Are you going to launch the fully automatic units for ECLIA?

Charles Zhu

Yes, this new semi-automatic system is just an upgrade to the existing semi-automatic system. This will be available by the end of September. Our fully automatic system is still on-target to launch for market by end of this year.

Operator

Our next question comes from the line of Graham Tanaka of Tanaka Capital. Please proceed.

Graham Tanaka - Tanaka Capital

I am just wondering what the difference in price was year to year on the analyzer and kits for ECLIA, and also for HIFU, just year to year. What part of the revenue growth was the average price change?

Charles Zhu

In fact, the analyzer prices is relatively stable, as not much changed in the price in analyzer.

For reagent kits, it is difficult -- it is not really meaningful to give an average price because we have 56 types of reagent kits, but if we talk about the growth of our reagents, it is much higher than the analyzer goal, is over 60% year-over-year.

Sam Tsang

Also, the average selling price for HIFU has been pretty stable as well.

Graham Tanaka - Tanaka Capital

So with the new HIFU, that would be maybe 5% higher, I think you were saying? Then, what would be the average price increase for the semi-automatic and the fully automatic analyzer for ECLIA?

Sam Tsang

In fact, we mentioned the production cost for the new semi-automatic will be much higher, but we are not going to increase the price, the selling price for the analyzer because the main purpose, the main objective is to sell more reagent kits. We are not going to raise the price of the new semi-automatic analyzers. So that is why I mentioned we expect the gross margin may be reduced slightly in following quarters because of the introduction of the new analyzer.

For fully automatic analyzers, we have not determined whether we will give to the target launch hospitals with a return of a long-term purchase contract, or even we sell the fully automatic analyzer at a very competitive price. We have not determined because we will only launch that analyzer by the end of this year.

Graham Tanaka - Tanaka Capital

Now, on the new semi-automatic and fully automatic kits, how much do those two add to your total available market turns of potential hospitals, of potential unit sales relative to the existing products?

Charles Zhu

The fully automatic system will be targeting the larger hospitals in the second tier, and also targeting the top-tier hospitals in China. For the existing semi-automatic system, we are only target the mid- to small-sized hospitals. The fully automatic system will expand out target market footprint by about 900 hospitals in China.

Operator

Our next question comes from the line of Joy Wang of Goldman Sachs. Please proceed.

Joy Wang - Goldman Sachs

Could you also provide a guidance for margins?

Sam Tsang

Which margin?

Joy Wang - Goldman Sachs

Both gross margin and operating margin.

Sam Tsang

Actually, we are not going to provide such margin at this stage, but if you refer to the margin base on the net income, we provided it is about 51% for net margin for ’06.

Joy Wang - Goldman Sachs

I have another question for Charles. There has been quite some noise in the concerns regarding company fundamentals. One of the major concerns that investors have is that HIFU could be hit hard by the campaign launched in April to crack down on kick-backs and the corruption in the medical systems.

Could you provide some clues on the expense to which the company will be impacted by the anti-kick-back campaign, in particular for the second quarter?

Charles Zhu

As I mentioned just now, so far we have not seen any significant impact on our HIFU system. We believe some of the reasons is for HIFU, the potential purchase will be the first time users, compared to those mature technologies. The hospitals are more inclined to delay those orders, that system that is upgrading their existing system, so that they can afford to wait for a couple of months.

For HIFU users, because they are a first-time user and it can generate incremental revenue for the hospital, so that is one of the reasons we believe our system, our business is less influenced by this campaign.

Also, as I mentioned previously, we all know that part of our disputed, they are doing the profit-sharing business model with the hospitals. Right now, this kind of business, this profit-sharing business model is arranged under the leasing contract structure. This financing term or this business model is getting more popular to the hospital because they do not need to spend their own money to buy this large capital equipment, so this is also helping our distribution with this business model.

Operator

Our next question comes from the line of Chang Qui of Forun Technology Research. Please proceed.

Chang Qui - Forun Technology Research

I have a few questions. Maybe first, for the new HIFU to be introduced, is the margin higher or about the same with the earlier model?

Charles Zhu

The margin should be a little bit higher because for the third generation we are going to launch, it is going to be mainly software upgrades as a real-time temperature measurement capability. The cost of the system will not be increased a lot. Since we are increasing the selling price by 5%, the gross margin will be a little bit higher.

Sam Tsang

That is why I mentioned the gross margin in the following quarter may reduce slightly, even though we have much higher production costs for our new semi-automatic analyzer, because some negative impact is offset by the higher margin from [FIJI], that is, first generation HIFU.

Chang Qui - Forun Technology Research

In terms of sales, how many distributors are you using? Do you do any direct sales?

Charles Zhu

For those business lines, we are mainly doing business through third-party distributors. For HIFU, we have about 20 distributors. For ECLIA, we have about 100 distributors.

We did have some direct sales. For example, this Q1 we had one unit sold directly to hospitals, and the selling price is much higher. The purpose of having direct sales is to ensure we have the sufficient bargaining power for negotiation.

I prefer this way of distributors because we can sell the products at the highest level. That means there should not be any complaint from the distributors who may want to use some excuse to put down our selling price to the distributors. That is why we still maintain to have some direct sales, but distributor sales account for most of our sales because distributor sales is more effective here, selling products in China, especially this large capital equipment.

Chang Qui - Forun Technology Research

Are any of the distributors contributing over 10% of your revenue?

Sam Tsang

There are some, two or three.

Chang Qui - Forun Technology Research

Of your top five distributors, how much is their contribution to your revenue?

Sam Tsang

For our top five, I do not have the actual figures now, but it should be the top five usually account for over 30% of our total revenue each quarter.

Chang Qui - Forun Technology Research

Is there any way to know if there is any inventory for any of your systems, HIFU or ECLIA, in the distribution channel? Maybe I can ask it the other way. For the revenue you recognized, is that all finally sold to the hospitals, or some of them are still with the distributors?

Sam Tsang

For HIFU sales, we are not aware of any inventory hold-up by the distributors because it is very costly to distributors. We ask for about 30% to 40% up-front deposits after signing a sales contract with the HIFU distributors.

Also, normally these HIFU distributors place orders when they are in the final stage of negotiation with hospitals. This really is rare to have HIFU distributors to hold inventory, unless there may be some delay in hospitals, unexpected delays -- say there are installment delays, it will not be ready, or the physicians are not ready for training and some unexpected reason. Otherwise, it is seldom to know any HIFU distributors to hold inventory.

Chang Qui - Forun Technology Research

How about the ECLIA side?

Sam Tsang

ECLIA side, we know because it is a very much smaller equipment and the price is very cheap. For distribution purposes, or distribution reasons, we know certain ECLIA distributors they have some level of inventories to ensure they can have sales efficiency to their hospital customers. Also, they keep a certain level of reagent kits, an inventory level to ensure a small supply of reagent kits to their hospital customers.

Chang Qui - Forun Technology Research

In terms of regulation, it looks like in later July, maybe early August, there is a policy by the health department that for all the medical equipment, the purchase will be centralized. In order to be purchased by government-owned hospitals, the equipment needs to be evaluated and pass the evaluation or something like that. I just wonder, what is your view on it? Is there any impact to your HIFU or ECLIA systems?

Sam Tsang

Our understanding is that policy is only towards those large diagnostic imaging systems, or more expensive imported equipment so far. Currently, our HIFU system is not regulated under this policy.

Chang Qui - Forun Technology Research

Maybe in other words, the HIFU system already passed all the evaluations?

Sam Tsang

I do not know what kind of evaluation you are referring to. We have obtained the Chinese FDA approval back in 1999. Other than that, we do not have to obtain any additional approval for us to sell in the China market.

Some of the controls you mentioned is, for example, for very expensive imaging diagnostic equipment like [CT SCAN]. There is some centralized approval process for hospitals who want to buy this kind of equipment, but for most of the domestic made products, and also most of the individual diagnostic products, that is not controlled by this policy.

Operator

Our next question comes from the line of Matthew Buten of Sapphire Capital. Please

proceed.

Matthew Buten - Sapphire Capital

As it relates to the last question, in your earlier commentary you did mention that you thought there may be the chance for some kind of slowdown in purchasing. If you are not impacted, why would you see that? How have you factored that into your thoughts on guidance for 2007?

Charles Zhu

We are seeing that because even though we have not seen the impact right now, we do not know how long this campaign will last and how it could influence our business eventually. We believe our business is less influenced by other mature, or more expensive medical equipment.

For the guidance we gave out, you have probably noticed that the growth rate we gave out for this year is a little bit lower than last year’s growth rate.

Matthew Buten - Sapphire Capital

Yes, but still very impressive growth rate. I think last quarter you talked about 20 hospitals doing a HIFU study in China. Can you update us on that?

Charles Zhu

Yes. Because this study includes some new areas -- for example, we are not only doing the HIFU mono-therapy studies. In addition, we are going to do the synergy study between HIFU and other conventional treatment methods, like radiotherapy and chemotherapy.

Right now, we have already organized an expert panel and they are designing the protocol of using HIFU in combination with chemotherapy and radiotherapy. Right now, they have finished the design, the protocol for treating pancreatic cancer with the other treatment methods. They are in the process of designing other protocols for the liver and other applications. As soon as they finish the development of the protocol, the Ministry of Health will start to choose the 20 leading hospitals in China to carry out the studies.

Matthew Buten - Sapphire Capital

Then on that note, the U.S. FDA progress?

Charles Zhu

Right now, we are in the animal test before we apply for the investigation of device exemption approval. We are at the final stage of completing the 18 large animal tests. Some of them are survival tests and some of them are acute tests. It takes some time for us to get the final results from those survival animal tests.

So far, from the results we got -- actually, about two weeks ago, we had a meeting with the physicians from the University of Washington. He is quite satisfied with the results we got so far. He is quite confident of getting the ID approval. That is how it is.

Matthew Buten - Sapphire Capital

On the ECLIA reagent kits, how many are you talking about launching now?

Sam Tsang

Right now, we are selling about 56 different kinds. We are targeting to launch about 80 different kinds of reagents by the end of this year.

Matthew Buten - Sapphire Capital

What does the rollout look like for next quarter?

Charles Zhu

The rollout for next quarter, some of them are depending on the regulatory approval process, because many of the new reagents developed are in the process of getting the FDA approval.

For example, there is a new HIV test. We just finished the large sample test trails for HIV test. We got very good sensitivity and specificity rates. But because HIV is a highly regulated reagent, it needs to go through and wait until we get final approval from the Chinese FDA. We are hoping we can get some final fast-track approval so that we can launch to market as soon as possible, but that depends on the regulatory approval process.

Sam Tsang

So the timing of having new reagents depends a lot not only on the regulatory approval process but also the development process, the development progress, as well as the chemical test process. There are a certain number of factors affecting the timing of launching the additional reagents.

Matthew Buten - Sapphire Capital

As it relates to your guidance for next year, what do you think the primary reasons are for earnings growth to be a bit slower than your revenue growth?

Sam Tsang

We talked about expectations for the gross margin, which we expect will jump slightly, and also we mentioned the operating expenses. The expectation for the operating expenses as a percentage of revenue is about 10%, which is higher than the 18.3% of last year.

Also, we mentioned the one-off other income. We do not have similar income in this year, which also obviously have impacts, or explain the reason why the net income growth rate is lower than the revenue growth rate.

I also mentioned the EPS growth rate. When we take out the effect of one-off other income, we have higher growth rate in EPS. This explains the reasons.

Matthew Buten - Sapphire Capital

When do you start to get some earnings leverage off of revenue?

Sam Tsang

I believe in ’07, ’08, we can see the leverage on our expenses.

Operator

Our next question is a follow-up question from the line of Joy Wang. Please proceed.

Joy Wang - Goldman Sachs

Could you provide the number of units of HIFU and ECLIA sold in the first quarter?

Sam Tsang

Yes, I mentioned that the HIFU units sold in Q1 is 17 units and the ECLIA analyzer is 292 units.

Joy Wang - Goldman Sachs

Thank you.

Operator

(Operator Instructions)

Our next question is a follow-up question from the line of Graham Tanaka. Please proceed.

Graham Tanaka - Tanaka Capital

Just wondering if you could comment a little bit more on the R&D part of the expenses, what the budget might be next year and ‘08 relative to this year. As you are rolling out new products and reagents, I am just wondering what is happening in R&D line.

Sam Tsang

I am sorry, could you repeat -- you were breaking up.

Graham Tanaka - Tanaka Capital

I was wondering if you could comment a little bit more about the research and development expense line, what that might be this year versus last year, and then also perhaps what the trend might be in ’07 and ’08, as you are rolling out new products?

Sam Tsang

Last year, the R&D expenses as a percentage of revenue was about 4%. This year, there is an increase in overall operating expenses. We mentioned 20%. One of the reasons is the R&D reasons.

Graham Tanaka - Tanaka Capital

Right, so that would go higher than 4%?

Sam Tsang

That is right. This year will be at least 5%.

Graham Tanaka - Tanaka Capital

Will that stabilize in ’07 and ’08?

Sam Tsang

There are factors, including the FDA progress, which may impact the overall R&D expenses in ’07 and ’08, because you know the FDA project is a medium-term project. It will last at least for a few years.

Operator

Our next question is a follow-up question from the line of Chang Qui. Please proceed.

Chang Qui - Forun Technology Research

A few follow-up questions -- for your reagent business, if the reagent can only be used with the ECLIA system, or can it be used with other manufactured systems?

Charles Zhu

Our system is a closed system, so it can only be used with our system.

Chang Qui - Forun Technology Research

Normally, what is the lifetime, or how many -- for example, one ECLIA system, how much of that reagent will be consumed in a given year?

Charles Zhu

The ECLIA business, the history is still young, so although we have figures, we do not think it is very meaningful figures, considering the current, soft history of the ECLIA business and also the growing number of equipment, and also the growing number of analyzers.

We mentioned we have 56 reagents. Actually, one year ago, we only had 27 reagents, so it is not the right time to mention the average consumption per analyzer.

Chang Qui - Forun Technology Research

In terms of technology, do you have any protection to prevent from any copycats, or any people who want to [borrow] from you?

Charles Zhu

For both of our businesses, we have patent protection, both in China and also, we are in the process of getting international patents as well. Another thing to prevent the copycat is the technology itself has some entry barriers. Some of the new HIV test reagents, we have been working with China’s Center of Disease Control for about three years to get the purified HIV protein. It is very hard for other smaller companies to develop this HIV reagent if they develop this by themselves, because for the HIV virus, it is highly controlled and it is very hard to get a purified sub-protein as one of the key components for the reagent.

Chang Qui - Forun Technology Research

In terms of competition, can you give us some idea what you see in terms of the competitive landscape?

Sam Tsang

For the HIFU system, we do see some new competitors but they are mainly smaller, local domestic companies. It is the same case for the ECLIA business, as people are realizing the high market potential in these segments, some new domestic players are entering into this segment.

As I mentioned, our system has the integrated platform, where the analyzer has the closed system and also the reagents developed by ourselves. There is some [inaudible], especially for reagents that are very difficult to develop.

Most of the new entrants, they can either devise a system or just several common reagents to be used with other systems. Currently, we still see we have a very strong position in competing with the new competitors.

Chang Qui - Forun Technology Research

Should we understand it this way -- the ECLIA system may be the entry barrier, could it be higher than the HIFU system?

Sam Tsang

For the ECLIA system, it is some part of the reagent, some kind of reagents, the entry barrier is higher than the others. It might not be so difficult for new entrants to develop a certain type of common reagent, but for several reagents, such as the HIV I mentioned just now, the entry barrier is very high.

It is very important for manufacturers like us to provide a very wide scope operation operating manual, because this way the hospitals will be more motivated to buy our system, because they can replace most or all of the tests that are run by their older system.

Operator

(Operator Instructions)

I am currently showing we have no further audio questions at this time. I would like to turn the presentation back over to management for any closing remarks.

Charles Zhu

Once again, thank you for joining us today. Please do not hesitate to contact us if you have any further questions. Have a good day. Thank you. Bye.

Operator

Ladies and gentlemen, thank you for your participation in today’s conference call. This does conclude the presentation. You may now disconnect.

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Source: China Medical Q1 2007 Earnings Conference Call Transcript (CMED)
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