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Synergetics USA, Inc. (NASDAQ:SURG)

Q1 2010 Earnings Call

December 16, 2009 10:30 am ET

Executives

Pamela Boone – EVP & CFO

David Hable – President & CEO

Robert Dick – Chairman

Kurt Gampp – COO

Dr. Jerry Malis - EVP

Analysts

[Stan Mann – Man Investments]

[John Legros – Messina Funds]

Bernie Harris – BJ Harris

Hubert Williams – Unspecified Company

[John Reardon – Carl Whedon]

[Mike Satter] – Private Investor

Operator

Good morning ladies and gentlemen and welcome to the Synergetics first quarter fiscal 2010 earnings conference call. (Operator Instructions) Synergetics would like to remind listeners that certain comments made during this conference call may be forward-looking statements for the purposes of the Private Securities Litigation Reform Act of 1995.

In some cases, forward-looking statements can be identified by words, such as believe, expect, anticipate, plan, potential, continue, or similar expressions. Such forward-looking statements include risks and uncertainties, and there are important facts that could cause actual results to differ materially from those expressed or implied by such forward-looking statements.

These facts, risks and uncertainties are discussed in Synergetics Annual Report on Form 10-K for the year ended July 31, 2009 filed October 28, 21009 and as updated from time to time in our filings with the Securities and Exchange Commission.

I would now like to turn the call over the David Hable, the company’s Chief Executive Officer.

David Hable

Good morning everyone, welcome to day’s call that is being broadcast over this conference line and as we noted in our press release last night, its also going to be available over the web. With me on the line today is Robert Dick, our Chairman of the Board; Pamela Boone, our CFO; Kurt Gampp, our COO; and Dr. Jerry Malis, our CSO as well as [Guy Garsh], one of new board members.

A press release was issued yesterday evening outlining our earnings for the first quarter of fiscal 2010. Our Form 10-Q was filed with the Securities and Exchange Commission last night. So the basic agenda of the call is I’m going to start with an overview of the results of the first quarter and then I’m going to talk about some recent developments, turn it over to Pamela and she’s going to bear down on more detail for the financial results. At the end of our presentation we’ll wind up Robert who’s going to talk about some general trends and issues and then we’re going to field everybody’s questions.

So getting started with my overview, first of all let me recognize that it’s a real challenge to understand all the moving pieces of the Synergetics business. Probably the best way to think of this period is that the company is in a time of transition. But rest assured that there’s some real underlying positives in the business model.

So first of all let me comment on sales, we do recognize that the period-to-period comparison was flat. The headline behind that result reads capital equipment. If I dissect that a little bit more, I see that the most significant sales shortfall was in the Omni Ultrasonic Aspirator.

This is on the neuro side of the business and that shortfall occurred both domestically and internationally. Sales shortfalls also occurred in our OEM business most significantly in the lesion generator which is the pain control device that we sell to Stryker.

In addition to that the photon which is our very differentiated light source illumination equipment in ophthalmology experienced a shortfall as well. So relative to our fiscal first quarter of 2009 company wide across neuro, ophthalmology, marketing domestic and international, kind of all the different categories that we view, capital equipment was down collectively $587,000.

The Omni Ultrasonic Aspirator was the largest component of that representing a $300,000 shortfall. Again company wide neuro, ophthalmology, marketing partner internationally and domestically, our disposable sales were up $487,000. Obviously not quite enough to offset the shortfall in capital. But that’s clearly the major dynamic going on in the sales numbers, is the capital equipment element.

Turning to gross margins, we’ve got a couple of mix issues going on, the most significant is the domestic international mix. Our domestic gross margin through the first quarter is 61%, our international gross margin across all franchises is collectively 48%. So as international becomes a proportionately larger part of our total business we obviously see that erosion of the gross margin and just as a frame of reference, in the first quarter of 2009 international as a percent of the total was 28%.

In the first quarter of 2010 it was 30% of the total business. Second this is, it defies simplification, but in the first quarter of this year we sold a less profitable mix of products collectively across all the franchises than we had in the past which resulted in an unfavorable factor relative to the total sales number.

So the summary on the gross margin story is mix and the biggest piece of that is the domestic international piece. As I think we talked about on a previous call we recognized this evolving trend and had implemented a price increase on the international side which partially took effect in September when we fully implemented this month by the end of the year.

Flipping over to expenses, R&D experienced a slight reduction as a result of our fiscal fourth quarter reorganization. As you may recall we divided the organization up into an advance technology group, a primary R&D group that focused on the balance of our projects, and a, not an R&D group but a manufacturing group that focused on line extensions.

So we attempted to unburden the R&D organization with some of the line extension type products. The net result of that was a slight decrease in expenses for the first quarter of this year. On the sales and marketing side, while sales and marketing expenses were essentially flat in total, there’s actually a lot going on that masked what is going to evolve as a large savings.

In the first quarter we realized the savings of $493,000 as a result of the reduction in force that we executed in the fourth quarter of last year and as you may recall part of that reduction of force, a big part of that reduction in force included our neuro sales organization.

In the first quarter of last year a review of our sales and marketing compensation plans was initiated by our independent board with the result that the independent board decided that some adjustments needed to be made. That was approved in the second quarter of 2009 which resulted in making the first quarter lower than average creating an unfavorable comparison period to period.

So those dynamics masked what was actually a very significant savings as a result of the reduction in the commercial expenses that we anticipate playing through as the year goes on. G&A was essentially flat period to period. Moving over to the balance sheet, we made some real progress there, receivables came down by $1 million.

Inventory is finally moving in the right direction. While its still high it ticked down in the first quarter relative to year end and as you may recall year end included a one-time write-off, so we’re making real progress there. Days of inventory on hand moved down from 234 at year end to 229 at the end of the first quarter but if you step back and look at the improvement over the course of a year, last 12 months, inventory has actually come down from 272 days of inventory on hand to 234 we reported at the end of the first quarter.

So a big move there. In addition we paid down $1.2 million on our credit line and renewed our credit facilities for another year. So all that is really good news and its making progress on our objective of improving the way we manage cash and deal with our balance sheet. So flipping over to the area of recent developments, we had two big announcements in November that related to the neuro side of our business.

We announced a relationship with Stryker and how that unfolded was that this opportunity basically presented itself, Stryker informed us of its intention to purchase Mutoh, the Japanese supplier of the Sonopet Ultrasonic Aspirator. And just as a refresher, there’s three components to the system, the ultrasonic aspirator system console which generates the energy, handpiece, and disposable tips that are associated with the system that we manufacture here in O’Fallon.

Collectively the ultrasonic aspirator line is the biggest part of our, almost 50% of our neuro business so this is a big element. The agreement that we struck with Stryker has three different components to it, an asset purchase agreement, which describes a basket of assets that Stryker is going to buy from the company that includes know-how, receivables, inventory, and this has the net result of providing some cash to the company.

A services or development agreement in which we’re going to work on a next generation product in collaboration with Stryker, which is really good news for us. And finally a distribution agreement which provides for us continued selling the disposable tips which is the most profitable segment of that business to Stryker.

So hear that clearly, that piece of the business which is most profitable, about half of the ultrasonic aspirator business which in turn is about half of our total [inaudible] business will be retained by the company, we’re going to continue to manufacture it and supply it, those tips to Stryker on an ongoing basis. So great news with that.

Second big agreement we announced in November was an extension of our existing distribution agreement with Codman and Shurtleff and this provides for them to have the exclusive distribution rights to our disposable bipolar forceps which has been a rocket ship of growth for us. It was a $3.5 million product line in fiscal 2009.

So we did that at the time with eight sales representatives. By turning it over to Codman we actually get to benefit of their 70 plus sales representatives in the United States and their very mature and established international distribution network through their affiliate system. So the idea here is to put this very differentiated product in the hands of a much more mature distribution organization and realize a significant sales increase as a result of that.

So both of these agreements are, take our highly differentiated neuro products, put them in the hands of a much larger distribution organization allowing us to drive the volume. We have negotiated agreements that allow us to preserve our margins on the supply of those products to our marketing partners and have the opportunity to dramatically reduce our commercial expenses associated with the marketing of those products.

So net net a very good series of deals for us that is going to return some cash to the company and allow us to put these very differentiated products in the hands of organizations that have mature and well established distribution organizations and we fully anticipate that they’re going to provide the volume on an ongoing basis.

So with that recap, let me turn it over to Pamela for more detail on the actual financials.

Pamela Boone

Thank you David, net sales for the first quarter of fiscal 2009 were $12.1 million, on an year over year basis our sales were down only 0.8% from the $12.2 million we reported in the first quarter last year. As David noted our sales continue to be dampened by the slowdown in capital spending due to a weak economy.

This had a direct impact on both our ophthalmic and neurosurgical capital equipment sales in the first quarter of fiscal 2010. On a year over year basis we saw capital equipment sales slip from 27% of total sales in the first quarter of fiscal 2009 to 22% in the first quarter of fiscal 2010.

This represented about a $600,000 drop in capital equipment sales as compared with the prior year. Although our total sales were clearly effected by the slowdown in capital equipment sales we experienced solid growth in disposable sales and increased penetration of international markets.

As we previously noted we expanded our international sales in the ophthalmic markets in Europe during fiscal 2009. This resulted in a 10.2% increase in international ophthalmic sales for the first quarter of 2010. However domestic ophthalmic sales decreased by 3.1%.

Our first quarter combined ophthalmic sales were up by 1.9% to $7.5 million and accounted for 61.9% of the total mix of sales for the quarter. Our neuro sales were $2.9 million for the quarter and were down 1.8% from the first quarter of last year. Domestic neurosurgery sales were up 2.6% while international sales decreased 15.5%.

The decline in international sales can be primarily attributed to the Omni Ultrasonic Aspirator line. We achieved these results even though we laid off a majority of our direct neurosurgery sales force near the end of the fourth quarter as part of our strategy to shift our neurosurgical sales to our marketing partners.

We continue to sell this product line through our team of two sales representatives, marketing professionals and four independent reps. But as David noted in his review of the recent events based upon the recent signing of the agreements with Codman and Stryker we expect that the majority of our sales to the neurosurgical market will be handled through our marketing partners.

We experienced growth in disposable sales compared with the first quarter of last year offset somewhat by lower overall international sales. We are optimistic that our marketing strategy for neurosurgery products will be an important part in rebuilding these sales in the future.

Marketing partner sales for the first quarter were down 5.2% to $1.7 million compared with $1.8 million for the first quarter of last year. Sales to Codman were down slightly due to sales of generator disposables. Sales of pain control generators to Stryker during the first quarter of fiscal 2009 were higher than fiscal 2010 due to Stryker’s model change.

Sales to Stryker returned to a more normal sales rate during the first quarter of fiscal 2010. Combined sales of $12.1 million generated gross profit of $6.8 million or 56.1% as compared to the first quarter of fiscal 2009 when gross profit was $7.1 million or 57.8%.

The approximate two-percentage point decrease in gross profit margin was primarily due to a change in mix toward higher international sales and a change in mix within our product line as David described. And also reduced absorption of labor and overhead on our capital equipment product lines.

Our selling expenses and our general and administrative expense both remained flat as compared with the first quarter of last year. The increase in selling expenses as a percentage of sales was due to a change in product mix this quarter with a lower percentage of marketing partner sales that are not commissionable and a full roster of ophthalmic territory managers.

R&D expenses decreased approximately $52,000 as our R&D initiatives were revamped in the second half of last year to focus on key projects resulting in reduced staffing requirements. Our net income for the quarter was $542,000 or $0.02 per share compared with $661,000 or $0.03 per share in the first quarter of last year.

Let me close out my part of the financial review with a few balance sheet highlights, as David noted our accounts receivable were down from July by about $1 million due to the overall decrease in sales and an improvement to our DSO to 55 days.

This was eight days favorable to July 31 and six days favorable to the prior year. We expect to see this number trend down as we move more neurosurgical sales to our marketing partners who tend to pay quicker than our international customer base.

Inventories at October 31 was $14.8 million, down from $15 million at year-end. The first quarter 2010 amount represented 229 days of sales, down four days from fiscal 2009 and down 43 days from the first quarter of fiscal 2009.

Clearly we’re moving in the right direction but we still have a lot of work to do. The clean up of inventory at year-end continues to help this number and we’re optimistic that our MRP program will have a positive effect on reducing this number even further.

One of our priorities has been to reduce our debt. We have a $9.5 million revolving line of credit which has borrowings of $3.6 million at October 31, 2009. This decreased from $4.8 million outstanding at July 31, 2009. This led to an improvement in our leverage ratio to 23.2% from 25.7% at July 31, 2009.

During the quarter we worked on the renewal of all our credit lines. All of the lines were renewed at basically the same terms through November 30, 2010. Based on our projected cash flows and credit available to the company we believe we have the resources to meet our working capital needs under our expected capital projects and service our debt in the coming year.

Now I’ll turn the call over to Robert for our trends.

Robert Dick

Thanks Pamela, now looking back over a year ago, I think it was October of 2008, we began to caution as to what the potential impact on capital equipment might be, our capital equipment sales might be as a result of the upcoming recession and in particular the shortage of liquidity throughout the economy and certainly at the hospital level.

Little did we know at the time that a year later we’d still be talking about that. Normally these things come and go in a eight to 12 month cycle and we thought we would be through that period but unfortunately as you’ve heard from David and Pamela today, we have not made it through that period.

Hospitals still have tight budgets. Its still difficult to break capital free. Each event and transaction appears to have to stand on its own and there’s approval cycles that take longer than ever. Hospitals, its like we might make a decision to repair our car instead of buying a new one, hospitals are making some of the same decisions and by hospitals I’m also talking about alternative surgery sites.

They can repair a lot of these things and keep them running rather than buying new and some of them are doing that. Also they’re just trying to get by with existing equipment even though the newest and latest may be a little bit better or a lot better.

If they can’t afford to buy the newest and the latest they just keep using the one they have. Also I think there’s a factor here that is impacting us across the board in many ways and that’s the uncertainty surrounding the new year plan, and what that’s going to look like.

The average surgeon certainly he or she is going to be wondering about what the reimbursement formula will be under the new plan. For a hospital they’re going to be wondering about what the reimbursement for treating that patient will be in the future particularly if the patient is on Medicare or other segment of the proposed plan.

The plan changes weekly as everybody reads in the paper. So what we have I think is something we’ve seen before, major changes in the healthcare system. We have a deer in the headlights phenomenon where people are putting off decisions and probably appropriately trying to figure out whether there are going to be alternative surgery site incentives or whether things are going to focus in the hospital particularly [applicable] to ophthalmology where there is a trend to move to alternative site centers and also do more in the office.

Other things I think are impacting our business negatively, mostly in the United States but also worldwide. But it is an issue in many other countries as well. Other trends I think people would be interested in, I think we can say at this point that we’re not seeing any materials cost inflation beyond what would be normal.

That in some cases can be a big problem but we haven’t gotten to that point yet. Prices seem to be holding. We’re able to negotiate materials prices. Labor prices seem to be holding in there, of course a year ago we tried to upgrade our entire incentive system and our [BTO] system and certainly that was well received. We have not had to do that since that time.

So from an inflation standpoint I think at least for now, things are moving along as expected. So I think those are the major trends impacting the business and now I think we can transition to the general questions that anyone might have and we’ll be happy to do our best to answer those.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of [Stan Mann – Man Investments]

[Stan Mann – Man Investments]

I’d like to ask a basic question, it seems to have been totally avoided on the call, we have supposedly a major change in our business and no one has spoken about the new business model. Its like its disappeared. Stryker and Codman are now distributing all of our neuro, that should change our profile and model of the business. So can someone kind of give us an inkling of what is going to happen since nobody has spoken to it. And second I’d like to know the net debt number and whether the Stryker amount of dollars is included and that seems to be a secret. Could you kind of open the conversation on what’s going on.

Robert Dick

I think David covered a good part of it but let me just [inaudible] a little bit, what we determined some time ago and I think we began to talk about this in October of 2008 is that in order for Synergetics to be a big meaningful marketing player in the neurosurgery marketplace we had to make very significant investments in our sales organization and restructuring a number of ways in which we were getting to the marketplace.

But at the same time we have four accomplished companies in the neurosurgery market looking for new products. We have the new products and we realized that we could structure arrangements with those companies where they would do the marketing and we would do the development and the production that we’re very good at in that particular market segment.

So its not necessarily a new business model, its simply a reorganization of the marketing, the distribution of the neurosurgery products and further alignment with, we had relationships with Stryker and Codman for a long time, as you know, and it’s a further alignment and enhancement of the marketing activity that we’ve organized with these companies. As David pointed out this means that we can concentrate on the things that we do well and they concentrate on the things that they do well.

[Stan Mann – Man Investments]

But that doesn’t answer my question, what’s the bottom line effect. I mean the gross margin is going to change. Your salesman have been removed, so you have a new model. And secondly I’d like to know what happens to our debt and the cash payment from Stryker which seems to be elusive. What’s our net debt and what is the payment included. What’s going to happen.

Robert Dick

I think Pamela mentioned—

Pamela Boone

Its $11.7 million.

Robert Dick

Our net debt now is $11.7 million.

[Stan Mann – Man Investments]

Including the Stryker payment?

Pamela Boone

No it has not been—

[Stan Mann – Man Investments]

And what is the Stryker payment since I haven’t heard a number yet.

Robert Dick

That’s a contractual matter between the company and Stryker and we really can’t get into that but let’s say that it’s a meaningful number and we will certainly report that as soon as it occurs. That only occurs at closing.

[Stan Mann – Man Investments]

And when is closing.

Robert Dick

We do not have that scheduled at the moment but we’ve signed a definitive agreement as you saw in the announcement and certainly as closing comes around, we’ll certainly be announcing it.

[Stan Mann – Man Investments]

So are we under this new arrangement now, we have no direct salesmen out there in neuro.

Robert Dick

We are selling, continuing to sell all of the Omni products direct and the change from that status where we’re selling it direct, we have some remaining sales resources which we’re using for that. We have all of our international distributors in place. We have independent [Zeiss] company representatives around the country selling.

So not all of the sales resources have been depleted so we’re continuing on that basis in the interim until such time as Stryker picks up the marketing of the Omni unit.

[Stan Mann – Man Investments]

So in the interim only our limited sales force of two are selling that total line and Stryker is not selling it. I don’t think that’s all clear.

Robert Dick

Let’s get into those numbers—

David Hable

Stryker is not selling it.

[Stan Mann – Man Investments]

Okay so Stryker is not selling it and our salesmen have disappeared is that correct.

Robert Dick

When we started down this path we have about seven sales people in the field and two managers. Today we have a manager and one or two people devoted to the sales. In addition to that we do sales here with customers, but in addition to that, we have I think seven or eight Zeiss representatives in various parts of the country and we have many international distributors all of who are continuing to sell.

We continue to get orders and we continue to ship.

[Stan Mann – Man Investments]

Okay so my question about the model, what will our company look like when this agreement is closed.

Robert Dick

What we will have is the R&D, design, and prototyping and all the manufacturing here at Synergetic selling these products on to our marketing partners, just in neurosurgery—

[Stan Mann – Man Investments]

At lower margins I assume than with direct, gross margins.

Robert Dick

At lower gross margins but certainly residual attractive margins, let’s put it that way or we wouldn’t have gotten into this in the first place and in turn they will sell it on to the hospitals and their own distributors or in the case of Codman, mostly direct.

So we think that’s going to work out very well. Obviously between the gross profit line and the operating income line there are a lot of expenses eliminated in that model and we see more certainly benefit to the operating income line than maybe we did previously.

[Stan Mann – Man Investments]

And that could show up after this agreement is signed which we don’t know.

Robert Dick

Well we do know and we think that over time that will begin to appear. Obviously there’s going to be a lag time. We have to finalize these arrangements, we have to [inaudible] the process, we have to train the people involved. And so that’s not going to happen over night but as you can imagine, and assuming everything goes well and I have to say we haven’t closed this deal yet, you read about a definitive agreement.

Definitive agreement as you know is not closing, and there’s still some bridges to cross between now and closing. So I have to certainly make sure that we include that as a caution.

[Stan Mann – Man Investments]

I have one, I went to my notes of the fourth quarter on my questions and in my fourth quarter notes I have the inventory as of the close of the fourth quarter was 201 days. Now that’s not what Pamela reported. If it was 201 days and we’re now at 229 did you say.

Pamela Boone

There was a change in the period that we calculated that over. We disclosed it in the Q. It’s a 12-month rolling period now versus the full quarter because the fourth quarter contained a write-off and we needed to continue to show that in the 12 month rolling and that is disclosed in the Q.

[Stan Mann – Man Investments]

In the Q but not in the face of our report that I’m reading, not the Q. So our inventory has changed from $15 million at the close of the fourth quarter to $14.8 million, is that—

Pamela Boone

That’s correct.

[Stan Mann – Man Investments]

Okay $200,000 so I come back to you Robert, since I’ve been on every call that we’re making these great programs and MRP programs and we’re making great progress in cost savings and margins and I guess I’m going to ask when are we going to start seeing these program in the numbers that we get as reported.

Robert Dick

If you go back a little bit beyond the fourth quarter in your notes, you might recall that I said that with the implementation of MRP and the structuring of our materials controls and supply chain management that almost always you end up building inventory that you should have before you’re able to sell all the inventory that you [didn’t] need.

[Stan Mann – Man Investments]

So this is an interim period that we’re going through.

Robert Dick

We’re going through an interim period, you’re absolutely right. As in things that are moving slowly take longer to move out. Things that we need desperately, or not desperately, things we need to make sure we have good customer service levels, we build those first.

[Stan Mann – Man Investments]

So we should not expect any more write-offs of the size and type that we’ve had.

Robert Dick

Of the size and the type, I would agree. But if we’re doing our job developing new products, and replacing our existing products with new products and new technologies, we can anticipate that we’re going to obsolete some of our products every year. And when we do that if we’re managing the company conservatively we’re going to write-down the inventory that’s associated with the products that we obsolete ourselves.

I wouldn’t be surprised to see a little bit of a [inaudible] and everybody should be very happy with that because that means that we’re doing a good job keeping the latest technology in front of the surgeons.

[Stan Mann – Man Investments]

I hope I start seeing a lot of that is all I can say. I think we’ve got a lot of words and a lot of plans but from a value, stockholder value point of view, I don’t think we’ve seen a lot. That will be my last comment.

Operator

Your next question comes from the line of [John Legros – Messina Funds]

[John Legros – Messina Funds]

In the last earnings call you told me that you’d be more aggressive on getting the story out, up to now I haven’t seen any evidence of that. I would have expected the Stryker deal and the addendum to the Codman deal should have had more of an impact.

David Hable

Well as Robert laid out the Stryker deal has not closed yet. We are tooling up to be more aggressive in taking the story on the road. We’re at the, in terms of more impact, we’re at the front end of those agreements so as the prior discussion indicated we haven’t seen the benefits of those yet.

[John Legros – Messina Funds]

So are you saying then that you will be more aggressive this quarter.

David Hable

First of next year, yes.

Operator

Your next question comes from the line of Bernie Harris – BJ Harris

Bernie Harris – BJ Harris

Congratulations on keeping the earnings and I’ve always think that the replacement parts is a big part of the business and as I was listening to the other person talk two ideas, one is as they sell more equipment will that also increase our replacement parts for the neurosurgery.

David Hable

So you’re talking about the Stryker component?

Bernie Harris – BJ Harris

Yes.

David Hable

Selling more equipment and consequently that translating into more disposable products we sell, the answer to that is yes. We have taken a conservative view of forecasting the volume increase, the units volume increase for disposable tips and as Robert indicated we’ve maintained by contract an attractive gross margin there so we really expect to see the benefit of that flow through as they ramp up their sales efforts.

Bernie Harris – BJ Harris

On the inventory side are they going to be responsible for any of the inventory parts.

David Hable

The question is are they going to hold the, they’re going to hold the inventory on the consoles and handpieces—

Bernie Harris – BJ Harris

I’m talking about the components to make it, so you can keep them and meeting their demand.

David Hable

We’ll hold those.

Bernie Harris – BJ Harris

You’ll hold those. And my next suggestion is when you do close the Stryker deal that you come out with a statement showing how much we got for it and what effects it will have on the, how much we’re going to save now on our sales part of it. And what effect it will save like on interest, on the paying down of the loan whatever we pay down.

David Hable

Absolutely, good observation. We’re anxious to communicate that piece of the story. Its good news.

Operator

Your next question comes from the line of Hubert Williams – Unspecified Company

Hubert Williams – Unspecified Company

I enjoyed all the preceding remarks and divulgence and I’m going to be very concise, in this day and age, I’ve been a stockholder of Synergetics for several years and in just putting it as I listen at my old age to Jim Cramer and those guys out there, when he interviews companies the bottom line is what is your estimate and what is your guidance.

David Hable

We have a policy of not giving guidance. We’re in a volatile business so that’s the difference.

Operator

Your next question comes from the line of [John Reardon – Carl Whedon]

[John Reardon – Carl Whedon]

Most of my questions have been asked but one I had was on the inventory levels, is there a particular level that you’re working towards on the inventory, do you have a target that you’re working on.

David Hable

Yes we do, first of all its something we spend a lot of time on getting our hands around what exactly is the right inventory level. Our working objective right now is $12 million that we’re trying to get the business down to which we’ve tested as a level where we can maintain service levels but realize a meaningful reduction. That’s what we’re working with right now but it’s something we’re continually challenging ourselves on.

[John Reardon – Carl Whedon]

And as a follow-up question competitively how are the company’s products holding up vis-a-vie your competitors out there. Does Synergetics, when you show your products and I’m talking about your higher end ones, do you compete primarily on technology or price or both.

David Hable

Definitely not on price, we have, I’ll speak to that first on ophthalmology and then on neurosurgery, one of the true core assets of the company is that these products are highly differentiated. They are sought out by the customers, the end users, the surgeons and so we sell these products on their features and benefits, their actual ability to do something different that other products can’t do. So it’s a technology sale, a feature and benefit sale, it’s a differentiated product.

Its not a price commodity sort of equation. Same thing applies on the neuro side even though it’s a much smaller line in terms of the number of codes, the ultrasonic aspirator has a unique dimension of being able to cut bone that the other products don’t and the disposable forceps which I said was $3.5 million is, in its physical design the size of the tips and the angle of the tings in the forceps is clearly differentiated for the [result] of the other products that are out there.

So on both sides of the business, ophthalmology and neuro, differentiated technology sale.

[John Reardon – Carl Whedon]

And in terms of cost cutting, you have been very good at maintaining the SG&A and are we about done with all the cost cuts you can take out of the model or do you have more to go.

David Hable

Well we have seen the benefit of what we’ve done so far, so the biggest piece of that is going to be the reduction in the neuro sales force and my admittedly complicated explanation of all that was that that cost cutting was masked by these other things that were going on in the period-to-period comparison.

So I think we’re going to see big savings going forward on SG&A.

[John Reardon – Carl Whedon]

Are we going to start seeing that in the quarter we’re in.

David Hable

I believe so, yes.

Operator

Your final question comes from the line of [Mike Satter] – Private Investor

[Mike Satter] – Private Investor

I have a question about distribution and how it takes place currently versus how it is anticipated to take place with Stryker and Codman under the new agreements. Is finished product currently shipped directly to our clients and will that continue to be the case under these new agreements or will Stryker and Codman inventory finished product and distribute from there warehouses.

David Hable

The latter, so we’re going to, we’ve already shipped product to Codman and plan as soon as we close the deal on doing so with Stryker.

[Mike Satter] – Private Investor

I guess my question gets to control of clients, under the old model under which Synergetics operated going back several years through a direct sales force it seems to me there was better control of the end use and under that scenario versus a model by which we are selling to master distributors, so to speak, can you comment on that.

David Hable

Admittedly that’s the case, any direct sales model is going to provide more interface and control as you indicated with the customer, that’s for sure. So that’s an issue but we think its more than offset by the fact that in the case of Codman, they’ve been selling electro surgery of which these disposable bipolar forceps is a component of that system for 30 some odd years. They had this huge established base.

So what we give up in direct communication with the customer and potentially control as you put it we more than make up for in terms of the breadth of the distribution opportunity that we have and the resulting improvement in volume we expect to see.

Robert Dick

We should also add in the case of Codman, its still branded as a Malis product and that’s our trademark. So there is a carry through of identity both in the electro surgery generators, as David mentioned a 30-year product with Codman and right on down to the new disposable forceps.

Operator

There are no additional questions at this time; I would like to turn it back over to management for any additional or closing comments.

David Hable

Thank you very much everybody. As I said at the outset I know it’s a lot of stuff to get your hands around but we’re in the midst of executing a bunch of complex plans and I think the company is going to benefit an increasing basis going forward.

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Source: Synergetics USA, Inc. F1Q10 (Qtr End 10/31/09) Earnings Call Transcript
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