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Spectranetics Corp. (NASDAQ:SPNC)

Q3 2009 Earnings Call

October 28, 2009 11:00 AM ET

Executives

Don Markley - Senior Vice President, Lippert/Heilshorn & Associates, Inc.

Emile Geisenheimer - Chairman, President and Chief Executive Officer

Guy Childs - Chief Financial Officer

Jason D. Hein - Senior Vice President, Sales, Marketing and Product Development for both the Vascular Intervention and Lead Management Business Units

Analysts

Amit Bhalla - Citigroup

Jason Mills - Canaccord Adams

Thomas Kouchoukos - Stifel Nicolaus

Suraj Kalia - SMH Capital

Spencer Nam - Summer Street Research

Joshua Zable - Natixis Bleichroeder

Josh Jennings - Jefferies & Co.

Charley Jones - Barrington Research

Operator

Welcome to the Spectranetics' Third Quarter Conference Call. At this time, all participants are in a listen-only mode. Following management's prepared remarks we'll hold a Q&A session. (Operator Instructions). As a reminder this conference is being recorded October 28, 2009.

I would like to turn the conference over to Don Markley. Please go ahead, sir.

Don Markley

Thank you. This is Don Markley with Lippert/Heilshorn & Associates. Thank you for participating in today's call. Joining me from Spectranetics our Chairman, President and Chief Executive Officer, Emile Geisenheimer; Chief Financial Officer, Guy Childs; Chief Operating Officer, Will McGuire and Senior Vice President for Sales, Marketing and Product Development, Jason Hein.

Please note that there is a slide presentation that the company is to webcast at this conference call. To view the slides, go to the Investor Relations section at www.spnc.com and follow the webcast link.

Earlier today, Spectranetics released financial results for the quarter ended September 30, 2009. If you have not received this news release or if you'd like to be added to the company's distribution list please Lippert/Heilshorn in Los Angeles at 310-691-7100 and ask for Noreen.

Before we begin, I'd like remind you that management will make statements during this call that includes forward-looking statements within the meaning of Federal Securities Laws. These statements involve material risks and uncertainties that could cost actual results or events to be materially different from those anticipated. For a list and description of those risks and uncertainties, please see the company's filings with the Security and Exchange Commission.

Spectranetics disclaims any intention or obligation to update or revised any financial projections or forward-looking statements whether as a result of new information, future events or otherwise. Furthermore, this conference call contains time sensitive information and is accurate only as of the date of the live broadcast October 28, 2009.

I'll now turn the call over to Emile Geisenheimer. Emile?

Emile Geisenheimer

Thank you Don, and good morning everyone. I'm happy to have an opportunity this morning to talk to you about Spectranetics.

Overall, I'm pleased with Spectranetics' achievements and financial performance in the third quarter. And we'll review some of the highlights with you with the help of a few slides.

The slides present quarterly data in a pie chart format, and now being talking about this quarter's revenue in comparison with the quarter a year ago in comparison to the second quarter of this year.

And the next slide please. To start with an overview, this morning, we reported worldwide revenue of $28.8 million for the third quarter of 2009. This is a 7.5% increase over last year's third quarter and slightly below Spectranetics' record selling second quarter of this year.

Investors should note that our third quarter have historically been our seasonal weakest quarter of the year during the summer months, which generally result in lower overall procedure values in the United States and in Europe.

To the next slide please. This slide shows our disposable product sales, which I think is the most important measure of our growth. The disposable sales increased 14.4% on the third quarter of 2008 and increased 2% over the second quarter of this year, because last year in later last year or last year's third quarter was driven by increases in both vascular intervention and being management product sales.

The other component of our revenue includes a major service and other miscellaneous items total $3.6 million during the third quarter, a decline from a year ago of about 25%. As discussed in previous calls, we're deemphasizing wage replacements and focusing on building volume in existing accounts. But this decline is consistent with our strategy.

Now let's take a look at U.S. versus international sales next. Next slide please. Total sales in the U.S. grew in the quarter increasing about 6% over the third quarter last year slight sequentially. International sales increased 18% over the third quarter a year ago, but declined slowly on the sequential basis.

Now we will take a look at our business unit result and our revenue results starting with vascular intervention. Next slide please. Vascular intervention revenue was $1 billion or 7% higher in the year ago quarter. It declined 4% from the second quarter levels.

The next three slides will show sales results for each of the pipelines and vascular intervention starting with that graph.

And next slide please. Total atherectomy revenue of $8.8 million declined 3% compared to last year and is roughly equal to our second quarter levels. Higher atherectomy, which represents approximately 12% of its total increased 29% compared with the prior year quarter was down 3% sequentially.

Peripheral atherectomy declined 6% compared to last year and was essentially flat sequentially. As discussed in prior calls, our peripheral atherectomy business has been negatively impacted by comparative factors as well as these are issues with the -- products.

I think clearly takeaway here is that as directly sales appear as stabilized at this level. I'll touch on the growth drivers, whatever pipeline related with my presentation. Next slide please.

Within that intervention, the sequential decline was largely attributed to crossing solution sales. Crossing solution sales increased 23% over last year but were down 9% sequentially. We believe that those decline in peripheral case values in the market and competitive product introductions affected for third quarter sales for crossing solution product line.

We're planning to launch our 14 and 18,000 version of our Quick-Cross Extreme during this quarter to augment roughly five version that was launched earlier this year.

Lastly let's take look at revenue. Next slide please. Sales with infra arteries (ph) product line reached $1.5 million in the third quarter and increase to 26% compared with the prior year quarter and are flat to our second quarter serve level.

We'll turn to our Lead Management business unit, the next slide please. I am very pleased to report the continued growth of our Lead Management business, which posted a 29% increase in sales of the third quarter of last year and $1 million increase in sales over our second quarter of 2009.

We believe that Lead Management continues to benefit from clinical data reported in the LExICon Study and a recently released and expanded guidelines for Lead Extraction published by the Heart Rhythm Society earlier this year.

Overall we're pleased with Spectranetics' third quarter results. I think the company performed well in what has historically been our weakest quarter of the year. I am particularly pleased with the way that we post our non-GAAP adjusted pre-tax profit of $641,000 for the quarter.

As noted in the press release, we completed restructuring of Spectranetics' organization that we expect a result in annual savings of $1.7 million. They have much more work to do to generate sustained and consistent profit. And with that goal in mind, we'll remain focused with increasing productivity and efficiency throughout Spectranetics.

Looking forward, we're focused on growth drivers, which includes new products expanded FDA clear and approved indications of views and continue geographical expansion irrationally.

When we look forward, we are adapting traditional evaluation of our next generation of all of these devices to serve most of them. We gained valuable feedback from 15 physicians participating in the evaluation and we are in the process of incorporating that feedback into the product for commercial launch early 2010.

We also look forward to FDA's response to our Form-K application seeking clearance for indication which we existent --

This is an important indication because the large percentage of sales in plant and as of today no device is clear for proven diagnosis. With severe of Form-10-K in the last week of September and we awake FDA response. In addition, we've concluded our position profits testing of our XT in Europe. We are in discussions with FDA, relative to a clinical trail design from the XT in United States.

These are the reasons our several location remain stable over the near terms as we develop and implement programs to drive utilization of our products to existing accounts and increase sales per sales territory. Internationally we're on track to expand the number of country sales, for 36 to 40 by year end.

Now I'll turn the call over to Guy to give a more complete financial review. Thanks everyone.

Guy Childs

Thank you Emile, and good morning everyone. I will repeat the detail of our revenue performance during the quarter since that was well covered by Emile. I would like to provide some additional color on the rest of our financial results.

Gross margin was 72.4% for the quarter compared with 71.6% during the prior year quarter. The improvement in margin is due primarily to favorable product mix and approved disposable product pricing compared with last year, due to a 3 to 5% price increase implemented in the fourth quarter of last year for at least management products and the first quarter of this year were our vast innovation products.

Selling, general and administrative expenses increased 10% compared with last year due to increased cost within our sales organization. Consistent with guidance provided to beginning of 2009, we have added 13 individual to the sales organization compared with last year this time. Bringing total sales headcount to 125 consisting of 84 individuals and Vascular Intervention sales organization and 41 in a lead management organization.

Going forward we expect sales organization headcount to in the relatively stable at current levels. Research, development and other technology expenses increase 9% to $3.6 million during the third quarter 2009 compared with last year due to increased product development activities.

The pre-cash loss for the third quarter of 2009 was $2,492,000 compared with pre-tax income of $615,000 for the third quarter a year ago. The pre-tax loss during the quarter, includes 3,133,000 special items consisting of 602,000 of cost associated with federal investigation, a 1,90,000 million of cost associated with previously announced ongoing litigation which is unrelated to the federal investigation.

$1075,000 relating to the discontinuation of the marketing and sales of the Safe-Cross product line and 366,000 of employee termination in lease abandonment cost. Pre-tax income during the third quarter of 2008 included 422,000 of cost associated with the federal investigation. Excluding special items in both periods non-GAAP adjusted pre-tax income with $641,000 in the third quarter of 2009 compared with non-GAAP adjusted pre-tax income of 1,37,000 in the third quarter of 2008.

The further description of these special items and the reconciliation of these non-GAAP financial measures to the most directly comparable financial measure calculated in accordance with GAAP is provided in our press release issued today and as nearly following the financial tables under reconciliation of non-GAAP financial measures.

Now, I'd like to make some comments related to the restructuring we completed this quarter. It began this summer with the consolidation of our sales, marketing and product development activities now under the leadership of Jason Hein. The actual stake in this quarter reflect the consolidation of certain functional areas including laser product development, technology development and sales training. In total the restructuring eliminated the total of 8 positions in the company and estimated to save approximately $1.7 million annually.

Most of these divisions were Manager and Director level positions. We're not prepared today to provide detail commentary on our 2010 outlook except that we will be focused on managing growth and operating expenses so that they are less than the revenue growth rate.

Turning to the balance sheet, our cash, cash equivalents current investments securities totaled 18.3 million at September 30, 2009, an increase of 2.7 million compared with 15.6 million at June 30, 2009. I will close with our outlook for the full year 2009.

The company continues to expect revenue growth during the 2009 in both the vascular intervention and lead management business units. Vascular intervention revenue anticipated increase approximately 8 to 9% in 2009 as compared with the 2008. Lead management revenue growth in 2009 as compared with 2008 has anticipated to approximate 27 to 28%. Gross margin is expected to be approximately 71% for the full year 2009.

While we expect to incur a pre-tax loss for 2009, a pre-tax profit is anticipated in the second half of 2009 after adjusting for the special items discussed under the reconciliation of non-GAAP financial measures immediately following the financial tables in our press release.

This concludes our prepared remarks. Operator, we are now ready to take questions.

Question-and-Answer Session

Operator

(Operator Instructions). Our first question comes from Amit Bhalla with Citi. Please go ahead with your question.

Amit Bhalla - Citigroup

Hi, Good morning I wanted to start with couple of questions on the VI business. Guy was wondering if you can go in to little more detail on Quick-Cross. I know you said there is some new product launches that impacted the products performance, we were looking at units down probably about 11% quarter-over- quarter. So can you describe the impact that the share loss that had and those for little more detail there. Thanks.

Emile Geisenheimer

Good morning Amit, this is Emile. I think I will take that question. First of all as I said in prepared remarks we see two effects on our sales of the process solution product line which is you point out as led by Quick-Cross. The two effects are some from the product introductions from competitors and two, an overall decline in procedural volume. We call that Quick-Cross, the place that have a guide wire across services or conclusion so that they fairly can be delivered.

And it's used in the majority of peripheral cases. So, we see decline across the peripheral space in the quarter largely we view that as a seasonal effect of the summer brunch. So, that's a big part of it.

The second piece is there were new product introduction by EV3 and for see this reserve areas large sales organization and a number of those accounts have traditionally used in a quick loss than we expect that there was some stocking of their products during so they could be tried.

And we see the trailing of the -- products to quick losses to something that will take place and thus we can estimate loss probably when loss share view although we anticipate that and will be considerable comparing pressure. I am will point out that in this category, it's a very low cost product and relatively expensive case. But, at the total procedure cost is slight higher relative to the cost across of our back half there for crossing wire. That reasonably called the product Quick-Cross, is it gets the low cost very quickly.

In a delay in the case as the material adverse effect on the cost of the case, so we think over time, managers and purchasing people who recognize that taking the risk of a delay in the case to say what about a few dollars per guiding capital is not exactly the economic figure you may see it as at the beginning.

Amit Bhalla - Citigroup

Are you able to quantify the impact from procedure volume versus the competitive impact for Quick-Cross and then I have a follow up?

Emile Geisenheimer

No that's very hard to do, we don't really have a third measure on that, before we spend it across, we used to look at Quick-Cross which basically hit the market to itself as a surrogate for growth and procedural volume. So, this noise in the system is throttling of products. So, it's hard for us to separate the two.

Amit Bhalla - Citigroup

Okay and then in terms of follow up. Can you talk a little about the atherectomy market and market share. It looks like some of the competitors in the market that had taken the share from you about a year ago have had some of their own disruptions.

So, have you seen some share pickup in below-the-knee atherectomy and then secondly on Lead Management, very strong numbers. So is the overall pie growing there or are you taking share in Lead management. Thanks.

Emile Geisenheimer

Let me do Lead Management first and I'll come back to atherectomy. I believe the pie is growing and its growing procedure volumes are growing as a result of the strong Lexicon data and the new guidelines from HRS.

I think we enjoy paying very large share of that market, and particularly the part of the market where they are complex embedded leaves physicians turn heavily to our advice which is the technology reader.

Back to atherectomy, -- repeat your question so I can help you with that one.

Amit Bhalla - Citigroup

Sure, what I was saying was that about a year ago you were, you had loss some share in the below-the-knee segment as the market as so many competitors come on. More reasonably it looks like there's been some disruptions with some competitors then I'm wondering if you were seeing some share gains and that's what I was looking.

Emile Geisenheimer

Okay. We certainly have that seen that we are calling stabilization. We were losing the share and having sequential declines for a number of quarters. And if we talk about two quarters ago, begin to see that stabilize and I do believe that we've recaptured some accounts, but certainly we still have a competitive balance around.

Amit Bhalla - Citigroup

Okay. Thanks.

Operator

Our next question comes from Jason Mills with Canaccord Adams. Please go ahead with your question.

Jason Mills - Canaccord Adams

Good morning guys.

Guy Childs

Good morning, Jason.

Emile Geisenheimer

Good morning, Jason

Jason Mills - Canaccord Adams

Thanks for taking the question. I wanted to start Guy with your comments about next year understanding that you're not prepared to give specific guidance. You are saying that OpEx is going to grow slower than revenue growth so you expect some leverage next year as it relates to revenue growth may be you could push it a little bit on it.

This year coming off a decent 2008 or your revenue 25% those like you've hit your numbers for the fourth quarter you'll grow over 10% in lieu of having launched Turbo-Tandem or an ISR indication. Understandingly, management growth is going to be hard to comp against next year. All that been said can we expect a year growth to decelerate from current levels or given the new products should we expect at 2009 models or may be even a chance with some acceleration next year.

Guy Childs

Yeah as we work into 2010, our current thinking we are just going through the planning process now has been, we would not expect the deceleration of growth and I think and acceleration of growth is really going to depend on the Turbo-Tandem as well as the timing and the possibility of an expanded indication for instant lease announces in the lags.

Emile Geisenheimer

And I would add one more point. We are focused on driving increased volume for account and we're developing programs which will be implemented next year with that in mind. We're not prepared to go the details of what those programs are at this stage. But as we develop and implement and begin to see their get traction will certainly be talking about next year.

Guy Childs

The last point I've made there Jason, is that we've enjoyed the significant international growth this year in fact faster than that in the U.S. Our current expectation is that growth will continue and possibly at a higher in the U.S. as well. But, we do anticipate growth in the U.S. based on the factors I mentioned earlier.

Jason Mills - Canaccord Adams

Great. That's helpful. A few follow-ups if I may. With respect Vascular Intervention and other one on Lead Management. The first on Vascular Intervention, Amit covered some of the atherectomy components.

On thrombectomy you saw a sequential uptick. It looks like in that business our year-over-year was up fairly strong against the first quarter. You had it for the full quarter. I know you brought QuickCat in house. I'm wondering with the more full sales bag if you're seeing some early signs of leverage there in success with QuickCat that we could expect to continue going forward on the lead management side.

Then perhaps a question for Jason. I mean you mentioned that you have significant success across the board. But, especially in complex cases, I'm wondering what in your product development pipeline you might have to augment your laser catheters with a maybe lower end catheter to do some of the simplistic cases so that you can defend your share across the board. And then I have one question on the investigation I'll get off after that?

Emile Geisenheimer

Okay. Well, Jason will handle the lead management question. On QuickCat let me talk a little about that, we're really just beginning to launch that product. I guess we are moving it in house for production purposes, but we're also in knowing of our accounts thus far. And we find the product lines we have under shelf like that prepares product itself without sales good present our clinical support for after show when we order prior seems to be working very well and position us we will be very happy with it. So, we see lot of runway ahead of us on the growth of that product in the U.S. and that's also very truly internationally. So QuickCat's got lot of it. Jason.

Jason Hein

Yeah, Jason here. Your question on the lead management related to the... we obviously enjoy the very strong quarter with lead management. Obviously the information that came out at over the society built on that as well the abstract data that was have presented on less time and they published hopefully soon. But, we did present the abstract data.

Your question is specifically on the products development. We, as you know, we've had the two versions of our products up there for many years. It's been incredibly successful. Tens of thousands of procedures, of course, we are looking at expanding our product pipeline to your question about the other segment. And I'd rather not to go into the specific sort of product ideas but we are relating several options specific to your question.

So we recognize as much that we have enjoyed over the last six quarters of this new product and we want to add to that the next year as well.

Jason Mills - Canaccord Adams

Great and then lastly on the investigation, it seems like we the specific cost associated with the investigation is starting to level out here perhaps even decline. And I mean I'm wondering if you could update us on what you are able to talk about in terms of the time that you're spending on the investigation; whether that's an implication of a good full discussion with the FDA.

And whether or not your and confident that we could reach some resolution in the investigation with the FDA sometime this calendar year and also is the IDE submitting the Form 10-K, is that an indication at all that the FDA is open to your submissions and responses to their investigation?

Emile Geisenheimer

Yeah, let me start with the last part of your question. Our relationships with CERH or the FDA has been normal and positive working relationship for most of the year when there was a disruption in that relationship. We communicated actively with them and our approach has led to a number of filings this year, a number of approvals. So I take it just disconnected from the investigation. And to the investigation Jason, I know it's frustrating for you and others, but I will say when I said before we are cooperating fully with the government. And it's my personnel goal to resolve this, this year. And naturally all I can say about that at this time.

Jason Mills - Canaccord Adams

Okay. Thanks guys.

Emile Geisenheimer

Thanks.

Operator

Our next question comes from Tom Kouchoukos with Stifel Nicolaus.

Thomas Kouchoukos - Stifel Nicolaus

Hey, good morning guys.

Guy Childs

Hi Tom

Emile Geisenheimer

Good morning Tom.

Thomas Kouchoukos - Stifel Nicolaus

I just start with you Guy, on just looking at your cash flow in the quarter, I mean you saw your cash balance increased a little bit. I wanted to without having the cash flow statement on your press release. Wanted to get a sense of where some of that was generated and what should take it do for the rest of the year?

Guy Childs

Sure. Of the 2.7 million increase this quarter on a sequential basis, 2.2 of that was operating cash flow so the vast majority of it, we most of the special items I think it should be noted were non-cash items. So we benefited from the adjusted profit there excluding those guidance which were non-cash primarily.

Also there was some improvement in DSO during the quarter. We had DSO 49 days this quarter that's the lower of the year. The other previous low was 51 days so that was 6 to 700,000 of benefit. We also benefited from one timing issue with accounts payable, we had just one last schedule the accounts payable on this quarter compared with other.

So all in most of that is operational performance, the APPs is little bit a timing. But, we're pleased to show that positive cash flow in the quarter. Going forward I guess to be specific I would just look out one quarter there and I can't be too specific there, but I'll say excluding any cash disbursement associated with the various legal matters that we're dealing with, we hope to remain breakeven the positive cash flow in the fourth quarter.

Thomas Kouchoukos - Stifel Nicolaus

Great, thank you for that. And then kind a going back to the direct any market VI in general, what are your competitors before they estimated they saw some procedure volumes earlier in the quarter. And then they saw that kind pickup in September and I'm just wondering if you saw that same trend or was that specific to maybe then?

Emile Geisenheimer

Yeah. I think that's the typical pattern the procedural software of sales is basically a function of a bad debt in the U.S. and to a greater extent in Europe. Our physician, customers think that vacation and many other patients as well.

So, procedure volumes are suitably down in the summer months, just about every year for that reason. And it's this product, where we live with. I actually think that our seasonal effect this year with the exception of crossing solutions was much lower than we have seen in the past.

Thomas Kouchoukos - Stifel Nicolaus

Okay and then maybe following on that. I guess what I'm also trying to get to is in the market in general with the economy and all the other factors that we're seeing this year. Have you seen anything different this quarter that you maybe have or have not seen in Q1, Q2, procedure volume wise.

Emile Geisenheimer

I don't think its affecting, procedure volume in the economy for say.

Thomas Kouchoukos - Stifel Nicolaus

Okay great, that's helpful and then finally last one, could you; it's a constantly moving target. Could you discuss as we are today what or where we are today, what's your take is on healthcare reform and maybe if the tax goes through how you guys fill your position to handle that?

Emile Geisenheimer

I'd like to keep this call simple.

Thomas Kouchoukos - Stifel Nicolaus

Exactly.

Emile Geisenheimer

If I could project with healthcare reform, is going to sell out the long way from being below on but if you look at the bills circulating through the house in resilient periods is though, there's going to be tax on medical device companies. We were where that might be substantially lower than in the, resilient bill that we cleared the committee. But nevertheless there would be a tax if that survives the -- because all these of the house instead of builds and -- I honestly a tax in itself is exceedingly negative particularly on smaller companies. And particularly on companies that not have yet paid the robust profits because the taxes are applied to top-line sales.

I think it's an unfortunate thing for the Congress to be considering particularly in an industry that have... traditionally have a large number of emerging technology companies that contribute substantial amount of technological intervention to healthcare that bill was certainly typo smaller in emerging companies that have not yet been fully financed and so forth, because it will be I think most of the capitalists will not be anxious to finance the tax.

And there are lot of places where the capitalists are going to invest their money. So I think that's worth notable. As our business, I think there is a two way story, there will be perhaps on one hand and the other hand, many of that of the patients who suffer from these debts, our devices treat are uninsured today and it's very under treated disease. So it is quite possible that as we build comment of forward limitation as they look like they will earn congress amount that indeed there will be many, many more patients treated and that could be very positive for us. So it's hard to know and obviously we're watching very carefully.

Guy Childs

Tom, this is Guy, just one addition to that, obviously it's a fluid situation but I did read something that came cross my desk yesterday that at least on side of Congress there is a consideration to delaying the implementation of that tax until 2013.

Again, it's a long way to between today and loss of that could change again but that's something I just read yesterday.

Thomas Kouchoukos - Stifel Nicolaus

Okay. Thanks for the color on that, guys.

Guy Childs

Sure.

Operator

Our next question come from Suraj Kalia with SMH Capital.

Suraj Kalia - SMH Capital

Good morning gentlemen.

Emile Geisenheimer

Good morning, Suraj.

Guy Childs

Good morning, Suraj.

Suraj Kalia - SMH Capital

Emile, I just want to want to follow-up, I know you answered this or at least part of these question before, and just need some more help. If I strip out the ThromCat revenue, the Kensey Nash revenues from VI.

For the most parts since Q3 '08, numbers are flat I mean lead to mobile seems to be doing and that's really the growth engine. I guess the real thing I'm trying to ask is help us to reconcile this versus some of the other players in the market place seem to be doing relatively okay. How do you get the engine cylinders working here. Is Turbo-Tandem the hope or where do you see it over the next three to four quarters?

Emile Geisenheimer

Guy, you want to comment, I don't think that this numbers are... we see the numbers quite the same way you do.

Suraj Kalia - SMH Capital

Correct.

Emile Geisenheimer

Remember this is the first quarter we've had a full quarter comparison on Turbo... on our thrombectomy products. So the contribution to growth of thrombectomy, it was brief...

Guy Childs

Yeah, I'll just speak to that and basically we increased from third quarter of last year a million dollars in our VI business. Of that 300,000 was thrombectomy. So the rest is in crossing solutions and atherectomy, particularly given the lack of a go-to product above the knee in a competitive environment. I think it's respectable, but I understand your general point in terms of going forward. Now let Emile...

Emile Geisenheimer

Yeah, so let me talk to you about going forward, I that there are obviously two issues. The first one is, let's start with thrombectomy. In thrombectomy, we lost considerable share to kind of... risk to a new product and built a sales force that substantially larger than our own and a what we believe to be an unsustainable economical model.

So we also believe that that product has advantages and certain anecdotal situations, certain clinical situations, particularly where there is heavy TLCM, but has limitations in other areas and it has been historically used in areas where we find, if you slow a bit... frankly to us little bit suspects. So we are finally at that day-to-day and we'll continue to so and I believe we'll have increasing success.

Now beyond that both of you as you know we introduced the turbo booster. The turbo booster was clinically a very successful product. In fact the channel data shows sustainable clinical results and in fact the accepted the publication and I believe will be published December.

I mean the strongest data in this marketplace and I would be the first to admit that the... all of the traction we will benefit from more data, no company has as much data as we have.

So, it is in tandem next generation product which is, as I mentioned on the call, for further clinical evaluation now with 15 sites with 15 physicians we've gotten all that in that regard. We've also gotten some very interesting suggestions about enhancements or improvements of the device which were around the incorporated device we expect to do a full launch of the product in the first quarter. That if we receive the FDA clearance for instant certification, I believe the three things; the strengthen of the channel data, the total care of the product and a potential ISR implication as we receive. After that, we will have the potential numbers of errors in our equipment to make the bulk of the marketing launch a very strong deal. So that drives our atherectomy business although we continue to focus on regaining share there.

Suraj Kalia - SMH Capital

Okay. So I mean, if I use these comments and tag them along to your earlier comments on healthcare reform, would it be advisable, I mean we know what's going on in the field with other competitive devices, I mean I'm not believer and later that seen that at seen other competitive devices. But it's frustrating to see the numbers and the competitive dynamics. And then now we have an added uncertainty in the field of healthcare reform.

Do you think it makes sense to get... leapfrog others and do some sort of randomized trials, I am not sure what you've randomize it to. But how do you... you said lack of data which is one of the things why its a free for all in the field at least for what we see. Help us understand how do we break through this and a clear technology winner starts emerging later than someone else?

Emile Geisenheimer

Well, I have to say on the subject today I did mention earlier that we have more data than anyone else. We had at the Diva in Las Vegas a week ago we had a panel discussion in which the full resume of Spectranetics data was reviewed by three physicians along with a number of other things that they reviewed.

And I have say that I was actually presently surprise to learn that we have 24 pure new publications on laser atherectomy and yet companies with no data and/or don't certify. They have been able to establish a position in the marketplace at least for the time and do not discuss in the past I've seen companies come to our mechanical atherectomy devices over the years and in time they find their appropriate place. And none of them sustained a market leadership position. And we survive those attacks sort of a period over the years.

Now that's have to say look to more data. I did say is that really the work of manage to continually add developed clinical data. There is an obligation of our company to advance the understanding of the science. And so we will be working on the development of trials that we'll be announcing in due quarters and so you will be hearing a lot of those as they become more firm and we launch them.

So that's about what I can say about the subject. I know the data we see because here we are fed with a lot of data for small companies. So it was quite a question, is this sustainable?

Suraj Kalia - SMH Capital

Okay. And last two couple of questions guys and I'll get back in the queue. Let's assume an optimistic scenario where the laser gets an ISR indication. Okay. Based on your internal analysis and to the extent that you can share how many accounts or what percent do you already willing an able to use the laser in ISR. I hope you can share?

Emile Geisenheimer

Yeah, let me first help you on that. Recall that with lack of success of turbo booster, and totally fully launched turbo catheter we are not really addressing the market that's most wide with recent analysis that most of it have been placed in that effect. The bulk of it blow in and most of the instant reason of this issues are therefore below the knee.

So, today we are not serving that market very well. So, to us it's a huge opportunity to enter that market in introduction of the total cabin to a number of practitioners we've got out to the lower element. In addition to our physicians who treat both above the knee and below the knee well which is a subset of atherectomy. Because, many of our cardiologist focus on pre-clinical and that were the clarification of the day. So, I know it's a lot of complexity to your simple question, but I'm afraid that's the answer.

Suraj Kalia - SMH Capital

Okay. Finally it goes and thanks for taking my questions. I mean are you close to being anniversary does Spectranetics' CEO, again to the extent that you can share help us understand what you saw when you did an swat analysis and how would you change this strategically out and by that I don't mean reducing headcount and so on so forth. I mean, strategically where did you see the company was going, what was wrong, what was the GAAP analyses and what changes have you made so far.

Emile Geisenheimer

We have a target rich question. And thanks for it.

Suraj Kalia - SMH Capital

I had to ask that, sorry.

Emile Geisenheimer

Well, as you may have expected initially, my focus was on stabilizing a company that was in a bit of a crisis arising on above the Federal investigation. So my first foremost to do two things, one, to get a grip on the implications and the strategy to deal with the Federal investigation. And two, to stabilize our people and our customers and those who are through to these to book of my energy for the first several months.

And that is a bit of press management situation at that point of time. But it didn't take much more than several months to begin to assess the quality of our people and the organization structure and the strategic issues that needed to be addressed. So there have been several strategies changes. One is we remained as an executive team, made decisions that we were not going to chase mega acquisitions. And we're only going to chase commodity product. We will remain focused on high value products and we will develop those from internally and perhaps through some acquisitions but not for chasing those big commodity product. So, that decision was made.

Like I said, the people I'm pleased to say I found a very strong team of people who are highly motivated and I'm very pleased by that. At the same time, we need to work on fully through a strong team while going in the same direction. So, we spend a lot of time together to working on building a consensus under strategic issues we had to address as a company and we've worked through a lot of that. And a lot of the strategic issues remain under evaluation and not that what they are but the answers of it, suffice us that there is very strong team of people here all engaged as to what the issues are and what the process is to resolve them, to answer questions about our direction. So, very, very pleased to report that. You know you see that our focus on building towards profitability is a different emphasis than you can see in the past that's another perhaps significant change in direction and beyond statement.

Suraj Kalia - SMH Capital

Great. Thanks guys.

Operator

Our next question from Spencer Nam with Summer Street. Please ahead with the question

Spencer Nam - Summer Street Research

Thanks for taking my questions. Just a couple of questions for management first one is with this, the FDA 510k, the talks that are going on out there. Do you see any potential issues with your current 510k application for in-stent restenosis, any feedback from the FDA just to suggest that if they want to take more time or that they are looking at things differently with this the raising issues of the 510-K process?

Emile Geisenheimer

Well, it's a very good question and thanks for asking it. Now, there is a two parts of the answer. One, we don't fully know, nor do I think anyone does. But, the full implications will be of the FDA's aggressive analysis of their 510k process and like changes they may make.

But, we do believe that many of the things that have been talked about publicly that might be incorporated in a different 510k process. We it was for quite sometime. Just to put us a perspective, the traditional 510k process was you filed a 510k application assuming that your product is substantial equivalent to an exciting product to submit and label for your product with instructions reduced and if you don't here back from the agency at 30 days new market the products. It's actually called a pre-market approval notification.

We were doing such a case with safety and efficacy data for quite sometime now. And, I think the big issue that that they are looking at in this reassessment of 510k is to improve that requirement of more and more 510k applications. We've already been living with that and we've also seen at least one of our devices that we requested a 510k for the -- been as specific European force so, there are some changes but we were not that unexpected to us, we've been living like that for quite some time.

Spencer Nam - Summer Street Research

Okay, appreciate that. Second question is on this FDA investigation, if you want to call that. Now, you guys are filing this 510k on one of the issues that became the part of the investigation. Could we even think about this as if you do receive the 510k approval in the 90 day period that we could look at this FDA issues somewhat resolved the negative been up here some sort of announcement or some kind of a close resolution but, we could start thinking this as a the war on the bridge at this point?

Emile Geisenheimer

I would caution you against speculating in that manner. I said for sometime and earlier on this call, that our relationship with the one of the part of the FDA that reviews, advices and regulates our devices has been a normal for quite sometime. And the only correlation that ever took place there was the raising of the issue of suspected safety concern of our lasers step in -- and then favorably in last in previous call that part of the IDE submission, I mean that the pre-IDE submission to FDA put an extensive safety data on laser so that was, that indeed was one of the matters that Federal investigation was involved with, but it's certainly not all of the matters of the Federal investigation.

Spencer Nam - Summer Street Research

Great. That's helpful. Thank you.

Operator

Your our next question come from Joshua Zable with Natixis Bleichroeder. Please go ahead with your question.

Joshua Zable - Natixis Bleichroeder

Hey guys thanks for taking my question, congrats on a great quarter.

Guy Childs

Thanks Josh

Joshua Zable - Natixis Bleichroeder

Most of my questions have been answered here but, I guess I am just trying get at expenses. They move around quite a bit, I know you guys gave us a little bit color on headcount, it seems like you added but you also taken away some positions you consolidated.

I know you don't want to sort of talk about guidance for say for next year but, I'm really just try to think about expenses as a percentage of sales just because it kind of moved around quite a bit over the past really two years.

So, if you could just help us throughout what you think about it, just some ballpark will be appreciated, thanks.

Jason Hein

Yeah this is Jason Hein, want to comment on the operating expenses sales team you see at the headcount fluctuating throughout the last several quarters.

One thing is -- in both Guy and Emile in the opening comments. We are focused on managing the execution of the company and that of course includes the operating expense and as you know, the sales teams are very large part of that. And I can confirm what they with said, they are going forward, we're definitely going to be managing that operating expense, the sales management team is committed to that. And we're going to see positive improvements in OpEx going forward within the sales teams.

Guy Childs

So, Josh just a couple of other general comments, I guess, we do anticipate operating expense as a percentage of sales decreasing next year compared with '09. I just appreciate the need for the information but I just can't comment now, because we're in the mid of our planning process, we're fairly deep into it but not finished. I guess the other bit of color I could provide is relative to the 1.7 million of annual savings associated with the restructuring activities this year, about two thirds of that is within the SG&A line and one third in the R&D line.

Joshua Zable - Natixis Bleichroeder

That is helpful Guy but let me just sort of and again understanding that you don't want give guidance when you say, its going to be sort of lower next year or lower going forward, are you referring to as a percentage of sales or referring to on an absolute basis?

Guy Childs

Yeah, I'm glade you clarified that, I'm talking about as a percentage of sales, specifically. I don't expect operating expenses to decrease. And on an absolute basis, now I'm talking operating expenses in our core business excluding all the especial items here.

Joshua Zable - Natixis Bleichroeder

Okay, great. And then just on the manufacturing stuff obviously a nice course margin here. We kind of, are we seeing a full benefit of the new manufacturing? Is that in there now? How do we get cross margin moving going forward I mean if I look back, during the past couple of years, we're actually still down from 2007 so I am just trying to think where are we add, how do we get higher, better and is that possible thanks.

Guy Childs

Certainly I do you think it's possible to expand gross margins and we don't expect that to occur this year, with the later on 71% levels. I think the expansion from here is less about facility consolidation; it's probably more about the new product volumes that we introduced that we can leverage the overhead that we put in place over the years in the manufacturing area. A smaller impact is going to be, bringing in at the quick half manufacturing which will conclude this quarter.

I mean we're going to improve our margins, they are doing it in-house. Not going to move the needle too much on an overall basis. But, it's an incremental positive there. And then the other factor is product mix. We tend to have better margins in our laser based products. So, after direct to me the laser sheath component of Lead Management. The more success in growth we have there, the more benefit to margin.

And lastly, it is just kind of one of those things that bounces around quite a bit is product mix overall between laser and disposables. The laser is very low margins capital equipment like, we had pretty low laser business this quarter, in fact, it's a historical low. As that increases, that could put a little pressure on margin. But, again, I think that the biggest drivers are increases in our laser based products and we'll also benefit from increases in other non-laser based products just to leverage over that we put in place and we've got lot of the investment behind us, in fact most of it on the manufacturing side consistent with Jason's comments on the field sale size. So we are pleased to grow and we'll talk more about that on next call.

Joshua Zable - Natixis Bleichroeder

Just to kind of really down for me, basically gross margin obviously hard to predict, but we're in the right range. Basically, right now we are not... we shouldn't see a step function up or down. So if we think about... you kind of saying the profitability next year, we're really talking about sales growth and SG&A leverage for the most part I recognize?

Guy Childs

Yeah, I think so and potentially... the potential for 100 basis points expansion in the second half of next year is we get some new products launched. I think those two things would be the driving factors.

Joshua Zable - Natixis Bleichroeder

Okay. Two just quick housekeeping items, you added some sales people, I just... I wasn't sure if you said, sis you say which sales force you added to?

Guy Childs

The people, we added to so far this year a total of 13, about half of those were in the VI organization and about half in the lead management.

Joshua Zable - Natixis Bleichroeder

Okay. Perfect. And then just housekeeping, going forward at least 2010, again that giving guidance on a tax basis say if you're assuming are going paying any taxes?

Guy Childs

It is safe to say that we're not going to go to pay any taxes. However, there will be GAAP income tax expense because of the accounting rules, there will be non-cash. So that's why I point investors to our pretax results as the most relevant measure of profitability.

Joshua Zable - Natixis Bleichroeder

Okay. Great, guys. Thanks very much taking my questions.

Guy Childs

Thanks Joshua (ph).

Operator

Our next question comes from Josh Jennings with Jefferies & Co. Please go ahead with your question.

Josh Jennings - Jefferies & Co.

Hi, good afternoon.

Guy Childs

Hi, Josh.

Josh Jennings - Jefferies & Co.

I guess sort of first one Guy, last quarter, you were kind of updated us with your share data on the direct market in general, and you said that you thought there may have been low to mid single digit growth from the Q1, do you have a data from Q2 here and can you share that with us?

Guy Childs

Josh, I'm afraid to say I don't have updated market data. We have not seen revenue results from all the market participants yet. So unfortunately, I can't address that. Are you talking about Q2?

Josh Jennings - Jefferies & Co.

Q2, yes.

Guy Childs

I'm sorry. It was inline and actually as we rolled up all the numbers, single to high single digit growth is where we landed there as well.

Josh Jennings - Jefferies & Co.

Great. And just in terms of your guidance from vascular intervention business unit, minus things that you were initially thinking exceeding 10% for the year, now it's down to 8 to 9%. Is that basically based on the 7% growth in Q3 and impacting second half results, are there something that you are seeing like in the first month of Q4 and beyond.

I guess just in contrast to competitor yesterday saying that you after sequential down taking after a business in Q3, there are still expecting to hit their initial guidance target of flat year-over-year revenues in that direct me for the years suggesting a nice sequential uptick. I guess if you could just comment on that?

Guy Childs

Yeah, I'll tell you what it's not. It's not an indication of this start to the quarter, it's probably more an indication of in order to move. We were up in our vascular intervention business 9% on year-to-date basis, our work is 8 to 9% for the full year.

So basically inline with where we're at so far this year in terms of growth rates and we recognize in order to move that needle, its really going to be about new product introductions and potential new expanded indications and we look to early 2010 for that to occur.

Josh Jennings - Jefferies & Co.

Great. But are you expecting a sequential uptick in that direct mean in Q4?

Guy Childs

It's possible, it's possible.

Josh Jennings - Jefferies & Co.

Okay. Great. And in just sales force activity has been a focus for you guys for last number of quarters. Can you give us any idea on the progress that you've made in terms of penetrating a customer base deeper and how much really you think you can go in terms of productivity with the sales force?

Guy Childs

Yeah, let me give you a couple of metrics there. Overall, both within VI and Lead Management, we measure that as U.S. disposable product sales valued by headcount. And that number for the third quarter was an annualized 837,000. That's up about 4% from the same quarter a year ago. So we're making progress really a lot more to be made. I think another way to look at that is prime more consistent with our competitors break it out just look at it on a quarter carrying basis the denominator there are not all reps and if you do that, we're at about a million 50,000 program just looking at quarter carrying reps and it's about... it's up about the same percentage compared with last year. The other way to look at and again we're early in driving utilization and we'll be talking more about that going forward.

But we need modest increases in revenue per account as well. We're up about 3% compared with last year. We're doing about $120,000 of disposable products business in our laser accounts so and that's up a little bit from last year. So progress being made certainly more to be there.

Josh Jennings - Jefferies & Co.

Excellent. And I guess, just in terms of, your focus on penetrating your customer base deeper and then the rollout of the turbo and potentially meaning to access some of those customers that are really just focused on above the knee. Can you give any comments in terms of your strategy, in terms of taking on new customers and with this driver sales force productivity?

Emile Geisenheimer

Yeah, we will be commenting on it but Jason wants to say something as well. We are developing programs now which should be probably contract early next year. That's really organized our sales and marketing effort around positive current account growth and therefore revenue for reps. So, mostly as you know working progress right now. So I don't want to talk too much about that and we will talk about them in some detail as they hit and they develop some attraction.

With respect to the total tailwind and above the knee market I believe it's a significant number of practitioners who are more focused to treating cancer than in treating critical limb ischemia and to focus below the knee we were serving physicians customers who were mostly focused on treating critical limb ischemia as opposed to cancer.

So there is reduced subset of the market that we will be addressing with larger turbo data and hopefully with that couple total data publication and the current for ISR. That will be there that they will frankly be balanced sort of active and all that with new accounts, probably more new accounts next year and/or sales per account at the same time.

So we have not done our planning completely for next year so it's hard to give you all the metrics to look at this stage but I am sure that will be forthcoming in the future.

Jason Hein

Hey, Josh, just one other comment, the utilization is very important. Throughout 2009 we've done quite a bit utilization for us and it's guiding us more. You will get the one comment we had about cap replacement and revenues were obviously down has anticipated and of course our value is driving utilization adjusting days later.

So throughout this year we've enjoyed despite the declining number of accounts controlled by design. We've obviously enjoyed that despite that as we focused on it for the last several quarters. So that one has already been under way and we'll continue that and as Emile mentioned to you in your program that will come out next year well and probably want more detail today. And then of course the final item is where turbo can involve. We're sitting with the new marketing, new preposition potentially and of course we see greater utilization there with an existing account as we tap into that. So all that will be forthcoming with the turbo economy reduction.

Josh Jennings - Jefferies & Co.

Great. My last one and I'll hop off. In terms of your international opportunity, where do you see your biggest growth or do you see the biggest growth opportunity in 2010? Are you looking for further in Germany until regulatory approval in France and also can you just give us some color on your business in Japan and your outlook for growth there. Thanks.

Emile Geisenheimer

Jason you go on another just one.

Josh Jennings - Jefferies & Co.

Yeah, let me start with Japan first. It's a... we do see upside there. There is still process we work the reimbursement issues more in approval but that's a longer path, we've made a great opportunity for any medical technology and that's probably the first one that we see some clarity coming here in the first half of next year and we'll talk more on that later.

As far as the European growth, I think what we've seen this year we have gone for just focusing in lower end probably as Emile mentioned, we are going to pushing close to 40 markets that we're in as far as product approval and distribution.

We do focus on just a couple at a time to make sure we have that utilization discussion as we have limited resources internationally. And of course we limit our relationship to distributor.

So we are asking growth Germany, we have going direct there to few of over sales reps. I think that strategy will continue in a fewer smaller markets and of course that's part of our planning, we're rolling out here in the next several weeks. And that planning of course way out we're going to focus our efforts on those international opportunities.

Emile Geisenheimer

Yeah, there is one addition to that. There is also... I'm sure as Child just listed a number of countries, the larger countries in Latin and South America that it was our right opportunity. So we expect to see some impact coming forward.

We just heard from Japan that the physicians in Japan have to take a position on priorities of the license to get reimbursement or clearance. And we just learned that the Japanese Hearth Rhythm Society elected to place our LOD device and careful device at the top of the priority list for receiving reimbursement.

So we're hopeful that that rolling here for another private physician will expedite the approval of that products reimbursement in a shorter period of time and whenever it takes place. And that's a very important market.

Jason Hein

And I think I would add some regulatory perspective, we are speaking peripheral atherectomy reimbursement and plans, we've submitted the documentation for that. We have not heard one way or the other yet.

Emile Geisenheimer

Next one.

Operator

And management has time for one more question. Our final question comes from Charley Jones with Barrington Research. Please go ahead with your question.

Charley Jones - Barrington Research

It's.... It's a multi-product question, I apologize for it, but the question revolves around In-Stent Restenosis. And I was wondering if you could give us a break down of, Jason how you believe In-Stent Restenosis is treated whether in the breakdown between stents, and balloons, and atherectomy devices?

And the second part of that question is do you think physicians will change from competitive approaches in large numbers if you do get an indication or do you think it's a slower process that requires more data?

Jason Hein

Yeah, so first on the break down of how In-Stent Restenosis is treated, important to point that our... without the indication today, this is a difficult question to go through and how we think the break down is, its not something... with no indication out there, for instance, Restenosis, I would imagine a physician, but we will see how to treat a patient that presents with Restenosis.

Then the question is going forward, how that's broken down, we don't really go through the market data and where those opportunities lie. We look more at the indication, the treatment of safety and efficacy of treating the ISR itself.

Emile Geisenheimer

Yeah, I have a comment to add to that. I suspect anecdotally for physicians that they are left with little choice but to use the total balloon primary treatment... they are frustrated because they know that the results to take and achieve that way illuminate and reach to those as we after treatment of the Restenosis are very, very high with the balloon supplying. o we think we're going to have a substantial opportunity in that with that indication.

Charley Jones - Barrington Research

I'm certainly aware if the complexity of this question given everything, but I guess I assume that your physicians, obviously you alluded in your promotion and you can't promote that way but I guess I figured that a lot of your physicians were using the devices off label on their own accord, for instance, Restenosis and I guess part of my question is do you think that there is probably greater opportunity to get new physicians involved with the device or do you think that there is quite a bit of an opportunity to go deeper into your accounts for In-Stent Restenosis.

Emile Geisenheimer

Alright. Let me help to clarify that a little bit. Remember that the tensor trade largely in the superficial femoral artery and larger ROEs and learned than require a large device to clear that. With regard a certain kind of product, our products really are not ideally positioned to treat those very large steps. So, I don't think that we're seeing a significant amount of use of our products relative to the potential. Even in accounts where we have the laser and our physician customers are definitely using a laser generally as a tool right now to do it well.

So, the exceptions being of course, a smaller losing some steps and this tool as they say probably maybe, they might use our larger caterers. So I do think that this is a market that we can address today. If we have occurrence today without a successful product offering above that clearance would not have, that bigger impact on our business.

Conversely I would say that the upside for our business is most larger than you may be thinking because we're not truly -- to be extend you maybe speculating.

Charley Jones - Barrington Research

That's very helpful I appreciate that, my last question is, I guess there's hoping you can give a chit and then idea of the opportunity that you think exist, the market opportunity for in-stent restenosis and that being a realistic, not a potential market opportunity and how long you think it takes to get there, to get there, if you do have an indication.

Jason Hein

All right it's a classic question for any -- It's a very third question we spent some time talking about that of course in our strategy with the discussion with that already around our progress with the FDA there.

As far as the market obviously it is a large challenge to the extent, you can look at the number of extents that are out there. Every careful that put in number on that right now with any products you can say there's a large market and of course to U.S. towards the realistic potential and what timeframe.

We are show that added one year, two year horizon. Right now, if you go to the planning process for next year, it's really now one put specific numbers to it. But as Emile said as one of those three drivers for next year we start the show data being strong. We see the Turbo-Tandem introduction, we look forward to with the in-stent restenosis indication could provide if we should, should receive that, it has a not put number on that right now and maybe say that for a future call.

Charley Jones - Barrington Research

Well let me ask it this way, then what percentage of cases do you think are review procedures in peripheral?

Emile Geisenheimer

let me help you with that. At the low end of the range, publish data of risk does not extend of is as hygiene, high range in the 70's. That is a percentage of since placed that in-stent restenosis within 12 months.

Jason Hein

And there's about 150,000 stents planted annually in the lags.

Emile Geisenheimer

So, if we use the, say 20% sort of the higher end of a low end of range. It moves to a very substantial number per year. We have got a few in-stent restenosis that occurs within a year.

So, it's a big market. Now the question because regionally that market is not automatic because a lot of those, the visions are treated by physicians that won't have a position with today. So, that won't be a challenge for us going forward.

On the other hand, some of the larger to play by our traditions so we will have two taps next I mentioned earlier penetrating our existing accounts. For instance, in-stent restenosis if you get this specific indication and penetrating account better led by physician customers who are focused on -- FFA.

Charley Jones - Barrington Research

Thank you very much.

Operator

At that this time I would like turn back to Management for closing remarks.

Emile Geisenheimer

Well I would like to thank everybody for participating today, enjoyed your questions and look forward to updating you on strategic progress on our next call. Thanks everyone.

Operator

Ladies and gentlemen that concludes your conference call for today. We thank you for your participation and ask that you please disconnect your line.

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Source: Spectranetics Q3 2009 Earnings Call Transcript
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