Kinetic Concepts Q1 2010 Earnings Call Transcript

| About: Kinetic Concepts, (KCI)

Kinetic Concepts (NYSE:KCI)

Q1 2010 Earnings Call

April 27, 2010 8:30 am ET

Executives

Cathy Burzik - Chief Executive Officer, President, Executive Director, Chairman of Technology Committee and Interim President of Global VAC

Adam Rodriguez - Vice President of Business Development & Investor Relations

Michael Genau - Global President of Active Healing Solutions

Martin Landon - Chief Financial Officer, Principal Accounting Officer and Executive Vice President

Analysts

Matthew Miksic - Piper Jaffray Companies

Shawn Bevec - Susquehanna Financial Group

Jayson Bedford - Raymond James & Associates

Michael Matson - Wells Fargo Securities, LLC

Gregory Brash - Sidoti & Company, LLC

Paul Choi - Caris & Company

Tao Levy - Deutsche Bank AG

Operator

Good morning, my name is Andrea, and I will be your conference operator today. At this time, I would like to welcome everyone to the KCI First Quarter 2010 Earnings Call. [Operator Instructions] Thank you. I would now like to turn the call over to Mr. Adam Rodriguez, Vice President of Business Development and Investor Relations. Sir, you may begin.

Adam Rodriguez

Thank you, and welcome to the KCI First Quarter 2010 Earnings Conference Call. Today, we will review the results that were announced in our press release earlier this morning. Today's webcast and conference call will include prepared remarks by Cathy Burzik, our President and Chief Executive Officer; and Marty Landon, our Chief Financial Officer. We are also joined by other selected members of our senior leadership team. If you have not received a copy of KCI's earnings release, it is currently available on our corporate website at www.kci1.com. A replay of this webcast will be made available on our website shortly after conclusion of the call.

Our conference call this morning will include forward-looking statements about our business, including guidance on future plans, revenues and earnings. These statements are based on our current expectations and are subject to a number of risks and uncertainties, which could cause actual results to differ from our expectations. More information about potential risk factors may be found in our filings with the SEC. Also, quarterly and full year results discussed in this call may reflect adjustments to revenue for changes in foreign currency exchange rates or adjustments to expenses related to the LifeCell acquisition and other significant costs incurred during the periods discussed. Please refer to the non-GAAP reconciliation of these metrics contained in our earnings release issued this morning.

I would now like to turn the call over to Cathy Burzik, President and Chief Executive Officer of Kinetic Concepts.

Cathy Burzik

Thank you, Adam, and good morning, everyone. We appreciate your joining us to discuss our first quarter 2010 results. On today's call, I will cover key developments in the quarter and then review the performance of our three core businesses, including comments on strategic initiatives. Marty Landon will review financial results, and then we will conclude with the question-and-answer session.

As discussed in 2009, we look on 2010 as a critical year of transition and of investment. Transition to novel, negative pressure-based products in our Active Healing Solutions or AHS franchise, an investment in building our AHS operations in Japan and our LifeCell operations in EMEA.

For the first quarter, total revenue of $486 million increased 3.3% from Q1 '09 on a reported basis. Reflecting seasonality and consistent with 2010 guidance for a revenue growth of 3% to 5%. Earnings per diluted share increased 30% to $0.74 versus $0.57 in the prior year period on a reported basis, or 10% on an adjusted non-GAAP basis. Again, consistent with our business plan and full year adjusted non-GAAP EPS guidance of 8% to 12%, and reflective of the significant investments we are making to drive the long-term outlook.

Clearly, a major development in the quarter was a decisive victory in our U.S. patent trial with Smith & Nephew. In which a jury decided unanimously in KCI's favor. We are pleased with the validity in infringement finding and the affirmation that represents of our Intellectual Property Right of the patent process itself and the protection it afford to those who truly innovate and commercialize important technologies. That in our case, benefit millions of patients each year. We are now pursuing an injunction and remain confident in our efforts. While the trial was a victory, we continue to be focused with great resolve on innovation, global expansion, diversification and organizational readiness.

Turning now to some first quarter highlights, including strong growth in LifeCell, now operating at a record revenue level and a solid 19% year-over-year growth rate and reflecting better performance that comes from better supply, as anticipated. Performance of our AHS EMEA business, which despite severe market dynamics and open competition shows penetration and growth. A favorable reimbursement decision in Japan, enabling our successful launch into the second largest medical device market in the world. We are off to a very good start there and see the broader Asian market as a true opportunity.

Achievement of several innovation goals, which with the resources we devoted, it's highly rewarding to witness given the evolution of our differentiated products portfolio. Progress with our global business transformation or GBT, cost savings and operational efficiencies and effectiveness aimed at making us a more nimble competitor. And finalization of our business unit structure, supporting our movement to a stronger, more customer-focused company. We also experienced continued challenges in our AHS business in the U.S. particularly in the post-acute market. While our global AHS business grew 1.1% as reported versus the prior year period, our growth was hindered by the slowdown in the demands for V.A.C. Therapy in the U.S. post-acute market, which we began to experience last year and are experiencing year-to-date.

We believe this change in demand is driven by several factors. Sustained high levels of unemployment resulting in millions of Americans without health insurance or dependent on Medicaid. The mix shift we are seeing now in more acute wounds being treated in the post-acute setting, rather than chronic wound. Thus, bringing length of therapy down about half a day compared to a year ago and the rise of low-priced competition in the market. We believe it is prudent to expect that these factors will not dissipate during this year.

As a result, Mike Genau and his team, are working to identify better ways to serve customer and patient call points in the non-hospital sector, in home health agencies, SNIP, wound care clinics and physician offices. We expect changes in our go-to-market strategy in these care settings to be implemented during 2010.

Regarding NPWT competition in general in the U.S., despite the lack of meaningful clinical and economic evidence, competitors remain aggressive with trialing and heavy discounting. KCI is focused on delivering our 360 degrees of healing-value proposition for our customers and on executing a wide variety of customer program aimed at making V.A.C. Therapy readily available in an increasing number of accounts.

In the EMEA AHS market, revenue rose over 11% as reported year-over-year. We realized another volume record in Germany, despite strong competitive activity and are generally satisfied with GPO contracting outcomes in Germany. But we have locked in substantial volumes at reasonable pricing, thus driving stability.

In the U.K. and Nordic regions, tendering processes continue to limit our progress. And in Southern Europe, we encountered some distinct price pressures resulting from the economic downturn in that region.

And now Japan. I am pleased to reaffirm that we are on the market in Japan, following positive reimbursement approval for our clinically proven V.A.C. Therapy system. We are honored by the Japanese government's recognition of the positive impact we know we will have on patients and on the healthcare system. We are excited with the strong start that we have had since our April 1 launch and we'll continue to make investments in sales, marketing and professional education, aimed at building strong capability in Japan. We have also filed for V.A.C. approval in China, and we have made progress with our plans for India and South America during the quarter.

Now an update on new AHS products. I'm energized by the opportunity that our new patent-protected products represent. You may have read yesterday our news release announcing FDA clearance of V.A.C.VIA, which is expected on the market in Q3. This is a true KCI innovation, based on new, novel, patent protected pump technology. V.A.C.VIA represents the culmination of several years of R&D investment at KCI.

This new system is a significantly even [ph] technology and value for the market from both clinician and patient perspectives bringing the robustness and sophistication of V.A.C. Therapy into a simple, single-used, handheld, powered NPWT product. The first such solution to enter the global NPWT market.

Importantly, V.A.C.VIA incorporates entirely new technology that allows the system to operate virtually silently without degradation of the trusted V.A.C. Therapy performance envelop. The product is compact, lightweight, highly portable and features a very user-friendly interface, such as one-button operation. All factors that we believe will clearly and positively impact patient compliance and thus, outcome. And it's easier to procure, store and utilize than current NPWT products. And as a solid example of KCI's ability to harness competencies in negative pressure, advanced wound care and novel technology to provide truly unique and value-added solutions that benefit patients, clinicians, facilities and ultimately, the healthcare system.

As a next-generation NPWT solution, V.A.C.VIA has been expressly designed to penetrate our core $6 billion NPWT market opportunity. KCI has also made substantial investments in automated manufacturing of the system in our world-class production facility in Ireland. Thereby enabling a simultaneous launch in select markets around the world. We just unveiled V.A.C.VIA at the SAWC [Symposium on Advanced Wound Care ] conference in Orlando, where clinician feedback underscores the substantial excitement we hold for this novel solution.

Turning now to ABThera. A unique negative pressure solution for active management of open abdominal wounds. We have continued to receive excellent feedback from surgeons, who are appreciative of the intuitive setup, ability to safely protect and control vital abdominal content and easy access, this advance system provide when applied to challenging wounds in the operating room. While it is still early, approximately 45% of Level I and Level II trauma centers have approved ABThera for use. And the system is now available globally, furthering our ability to pursue this $400 million opportunity.

And while I am disappointed we don't have 510(k) clearance yet for Provena, our new negative pressure-based system for the post-operative management of surgical incisions. This innovative product is now on the market in Europe and Canada, where early clinical experience have been extremely positive. We have high expectations for this well-designed solution, targeted to address post-operative complications from incisions that all too often result in clinical challenges, increased hospital cost and poor patient outcome. Based on our understanding, the global market opportunity stands at a compelling $1 billion, assuming $3 million surgical procedures involving high-risk patients.

Over the next 12 months, we expect to bring additional Negative Pressure Technology Platform or NPTP products to the market, such as V.A.C.Alta [ph], our next-generation system with proprietary fluid installation technology, and yet another advanced NPWT system that also holds great clinical promise for caregivers, patients and KCI shareholders. We have made exceptional stride, especially in the last 24 months to advance the idea of a broad, negative pressure-based technology platform from concept to reality. We are now commercializing a highly differentiated, innovative portfolio that will support AHS' ability to serve the marketplace in an unparalleled manner. I applaud the outstanding efforts of our R&D and commercialization teams, as the NPTP portfolio represents a major strategic initiative supporting our next phase of growth.

Turning now to LifeCell, our Regenerative Medicine business. Revenues in the period set a quarterly record at $79 million, which increased over 19% versus Q1 '09. The strong performance is in line with our long-term growth target, as we penetrate core applications and enter new markets and new geographies.

AlloDerm, which remains the market gold standard regenerative tissue maker, delivered nearly $45 million in revenue, driven by performance in breast reconstruction. Through the hard work and efforts of our LifeCell employees in New Jersey, we remain on track for mid-year resolution of AlloDerm production constraint, consistent with previous communications. Growth in the quarter was driven primarily by Strattice, up nearly 79% over Q1 '09, and now 37% of revenues compared to 25% a year ago.

Strattice, now the leading biologic products for challenging hernia repair, continues to find excellent adoption given it's superb clinical performance and is approaching a solid $140 million annual run rate in revenue despite intense competitive efforts. And with yields on Strattice still improving, we are confident in our ability to better meet continued strong demand and grow the franchise.

On the clinical front, we are excited with our robust program for Strattice. We have encouraging six-month data from the rich [ph] study and look forward to sharing the 12-month data later this year. We now have seven clinical studies under way or waiting publication for Strattice, and we'll continue to build up a clinical case in support of our position as a regenerative medicine leader.

Regarding our European expansion for the LifeCell business, we are well underway. With the U.K. market leading the chart and are seeing success in providing Strattice to help clinicians address breast reconstruction and challenging hernia repair with new clinical approaches. Q1 represented our first million-dollar quarter for LifeCell EMEA, and I am very proud of the work our team is doing there.

We are executing as expected, and have now officially launched in seven additional countries out of the eight planned for 2010. Collectively, we believe these markets represent an opportunity of approximately $600 million annually. As such, we will dedicate the necessary resources as we did in Q1 to ramping sales, marketing and infrastructure to best support our geographic expansion efforts.

On new regenerative medicine products, we are fully launched and are experiencing encouraging adoption with applications of Strattice for stoma reinforcement and for mastopexy. Also our new head in our specialty sales force, that we talked to you about last quarter is making progress with increased traction in this underserved market applications for AlloDerm.

Turning now to our TSS business. In the first quarter, TSS declined a modest 1% year-over-year to $74 million. While it's tough to repeat the solid fourth quarter, we did realize stability in the wound care and bariatric segment for TSS. As you know, the fourth quarter benefited from demand spurred by the H1N1 pandemic, which lessened in the first quarter and thus, impacted our utilization. We believe that healthcare facilities are stabilizing, though their spending remains cautious.

Steve Seidel, President of TSS, made great strides in the quarter to assemble a strong management team, both in the U.S. and in EMEA. But he's half past with executing a strategic plan focused on global growth in a plausible manner through, among other things, sales force deployment, service-delivery enhancement and product-portfolio optimization. This group has work to do, but I am confident they will be successful. I commend the efforts Steve is making thus far in TSS and the construction of the leadership team. And I look forward with confidence for the long-term success of this business.

Regarding healthcare reform, we are pleased to be able to actively participate in reforming our system with an eye towards extended coverage for Americans, while advancing in partner initiatives aimed at improved outcome and bending the cost curve. While we do not see significant impact from reform in the near term to us, the 2.3% medical device tax rate established by the bill effected in 2013 will be a challenge for the industry. This will likely play out over a period of years. Overall, we believe reform will be a good thing for companies such as KCI, which are focused on delivering superior outcomes and savings to the healthcare system.

In closing, we are executing our long-term strategy, focusing on innovation, globalization, diversification and organizational readiness, while delivering strong earnings and superior cash flow. In AHS, Mike Genau and his team are highly committed to the success of V.A.C. in Japan and to the roll out of our new NPTP products globally, as well as ensuring the long-term sustainability of the franchise.

In Regenerative Medicine, Lisa Colleran and her team are delivering superb growth despite some remaining AlloDerm supply constraint. In TSS, Steve Seidel and his group are focused on growth and profitability, as well as navigating the ongoing challenges in this market.

We are tracking to our internal earnings plan and are reaffirming our annual guidance for the company. I will now turn the call over to Marty Landon to review our financial performance in the quarter in more detail. Marty?

Martin Landon

Thanks, Cathy, and good morning, everyone. I'll review the first quarter's financial results in more detail, and then I'll provide you some color on our firm fiscal year guidance and outlook for the remainder of the year.

Total revenue for the first quarter of 2010 was $485.8 million, an increase of 3.3% from the $470.1 million reported for the same quarter one year ago. Excluding the effects of foreign currency exchange rate movements, first quarter revenue increased approximately 1% year-to-year. In our AHS business segment, first quarter negative pressure wound therapy revenue of $333 million increased approximately 1% on a reported basis from the same period one year ago, while decreasing approximately 1% on a constant-currency basis. On a sequential basis, AHS revenue declined from the fourth quarter of 2009 consistent with normal patterns of seasonality and enlarged by some year-end purchase activity from some of our larger accounts.

As Cathy said, we were challenged in the non-acute U.S. V.A.C. sector, weather factors in addition to normal seasonality impacted our results. Outside the U.S., we continue to experience unit volume growth as we continue to penetrate the market and change the practice of medicine. However, pricing declines muted our overall revenue growth. Our international AHS business was aided by nine percentage points of favorable currency. The reported growth was 11.3% year-over-year, while constant-currency growth was 2.4%. Of note, this foreign currency benefit was not as strong as it might be for some other companies, as our Asian business remains comparatively small. And thus, we did not benefit much from the very strong rise in Asian currencies during the period.

Regenerative Medicine first quarter revenue of $79 million increased 19.3% from the same period of the prior year, both on as-reported and constant-currency basis, and increased nearly 3% sequentially from Q4 2009.

As Cathy noted earlier, we continue to feel the effects of AlloDerm supply constraints during the first quarter, although these constraints are moderating with each passing month. On the positive side, we experienced robust growth in Strattice, now that we have adequate inventory to meet demand. TSS revenue for the first quarter of 2010 decreased 1% from the year ago period to $74 million and was down approximately 5% on a constant-currency basis. The revenue decline resulted from lower rental revenue particularly in critical care products, partially offset by increased product sales especially in North America.

On a sequential basis, the TSS business was down 11% versus the fourth quarter of 2009. Impacted by a declining census tied to abating H1N1 incident seen in the market. We still see demand for RotoProne, though at trailing levels versus last quarter as a result of this.

In terms of gross profit, we again reported a strong gross profit of $271.7 million, an increase of 8.4% versus the prior year period. And a gross margin of 55.9%, an improvement of approximately 260 basis points compared to the same period of 2009. The increase in gross margin was chiefly due to a combination of revenue growth and the comparatively higher gross margin from our Regenerative Medicine business, as well as to lower product royalty expense, lower rental-related selling expenses and further realization of our ongoing service efficiency initiatives.

Our research and development investment in the quarter increased to $24.8 million or approximately 12% above the first quarter of 2009, consistent with our expectations given our focus on innovation and new product development. R&D expenditures now represent approximately 5% of total revenue. SG&A expenses for the first quarter of $135.4 million rose 6.9% compared to $126.7 million for the same period of 2009, and approximately 15% pro forma for restructuring charges taken in the first quarter last year.

This increase was consistent with plan and largely a function of the investments to support our new product and geographic launches and global business tranches, as well as ongoing legal expenses. We expect continued spending in some of these areas with some offset due to our focus on driving productivity improvements and reducing costs in other areas. I would also note that we have reclassified certain items into SG&A from rental expenses related to international shared service support costs. This change have been reflected in both reported period and did not have any impact on operating or net earnings. We are tracking well towards our previously announced target of $100 million in cost savings exiting 2011, as part of our three-year global business transformation or GBT initiative.

In the first quarter, our operating margin of 20.9% rose nearly 140 basis points compared to the same period in 2009 on a reported basis. For 2010, we expect to at least maintain or gradually improve operating margins, but I'd remind everyone that some variations is expected from period to period, as we make the necessary investments to implement this program. Interest expense was $23.6 million in the quarter, largely related to the LifeCell acquisition financing. Compared to Q1, interest expense decreased nearly $5 million consistent with our accelerated debt repayment program.

The first quarter 2010 interest expense also included non-cash charges of approximately $5.2 million compared to $4.8 million in the first quarter of 2009, associated with the required adoption of new standards related to the accounting for convertible notes. The first quarter effective income tax rate was 30% compared to 31.8% in the prior year period. In the first quarter, these improvements contributed approximately $0.02 to our diluted EPS. From an income tax provision standpoint, we still see slight improvement annually as we go forward.

On an adjusted basis, excluding the effects of non-cash, acquisition-related items, we recorded first quarter diluted EPS of $0.91, up approximately 10% versus the comparable period of 2009. The improvement in earnings was the combined results of our top line growth coupled with the operating leverage of expanded growth in operating margins plus the financial leverage resulting from our focus on debt management and the improving tax rate.

Turning now to our balance sheet. Our financial position remains liquid and stable. In total, worldwide cash of $256 million and a substantially unencumbered $300 million revolving credit line. Because of our strong cash flows, we again made schedules and voluntary payments totaling $75 million in the first quarter on our Term A bank debt.

At quarter end, 2010, our total debt on an economic or debt instrument basis were $1.37 billion or approximately 2.1x our trailing 12-month EBITDA. And in April of 2010, we made an additional $25 million prepayment on our senior debt.

Regarding our cash flows. Operating cash flow at net capital expenditures were $64 million in the first quarter versus $37 million in the prior year period. Primarily as a result of better working capital, account management and a higher net earnings. Accounts receivable days outstanding improved slightly from the prior quarter, as we continue towards improving our billing and customer service operations.

Turning to our guidance for the full year. As Cathy indicated, we are reaffirming our guidance for full year revenues of $2.05 billion to $2.09 billion, implying growth of between 3% and 5% and adjusted non-GAAP diluted earnings per share of $4.32 to $4.46, implying growth of approximately 8% to 12%.

Our revenue guidance reflects stable year-to-year revenue in terms of our AHS and TSS businesses and double-digit growth in regenerative medicine revenue. The AHS outlook results from our expectation of new revenue from geographic expansion and new product introductions, offset by lower realized pricing and lower unit volumes in our U.S. AHS business.

Reported or GAAP diluted earnings per share is targeted at $3.56 to $3.66, implying growth of 10% to 13%. Our earnings leverage will come primarily from gross margin expansion and financial leverage from debt reduction and improving effective income tax rate.

To assist you with your modeling and to provide a consistent basis of comparison, we have included a reconciliation to the adjusted earnings per share in this morning's press release. And with that, we'll open up the line for questions. Adam?

Adam Rodriguez

Thank you, Marty. As a guideline, we would request that each of you, please try to limit yourself to one primary question and then a follow-up question. That way, we can allow as many people in the queue to post questions as possible, with time we have remaining. Thank you for your assistance with this. Operator?

Question-and-Answer Session

Operator

[Operator Instructions] You have a question from the line of Tao Levy. [Deutsche Bank]

Tao Levy - Deutsche Bank AG

It's Tao over here. First, if I look at the EPS shortfall versus consensus in the quarter, it looks like maybe the spend on SG&A came in a little bit higher than expected. So I was just trying to figure out how much of the spend in the first quarter was more sort of one-time-ish in nature, in the sense that you're building up an infrastructure to get into Japan, you obviously had the legal expenses. And as we look throughout 2010, how should we think about that, in terms of a dollar basis, or even in the percentage of sales?

Cathy Burzik

Sure, Tao. First, as I said in my script, we did meet our expectations for our own business plan on our earnings. And of course, we understand how we would plan to invest during the year. The trial clearly, was a one-time event during Q1. But we do have ongoing litigations, obviously, in other areas beyond Q1. The investments that we're making right now to build up Japan, our infrastructure in Japan and for our new products, really are substantial. And they are obviously, part of the total first half of the year. So you can see that it's not exactly balanced between first half and second half on the investment front. Marty, do you want to comment anymore on that?

Martin Landon

Yes. And Tao, some of those increases are our investments in like new product launches. You've got investments in Japan, you've got investments in the LifeCell sales organization in EMEA. So I think, in terms of total dollars, you'll see that flatten out, it may come down slightly, but it will come down as a percent of revenue. So as the revenue grows, related to the investments that we've made here, you, at least, can see those things come down, as a percent of revenue.

Tao Levy - Deutsche Bank AG

My second question is, is there a -- post the trial and the decision there, have you seen any changes sort of in the competitive environment, here in the U.S.? Obviously Q1, you mentioned, was impacted by increased competitive activity, and I just didn't know if that behavior changed, exiting the quarter, or even early here in the second quarter.

Cathy Burzik

Tao, we have not seen changes so far as a result of the trial. I will turn it over to Mike C. here. Mike can maybe provide a little more color.

Michael Genau

What we're seeing in the free trialing area is I think, very little change from the companies that you would know in the U.S. and then back in Europe, post-U.S., in fact that activity seems to be picking up some as well.

Operator

Your next question comes from the line of Michael Matson. [Wells Fargo]

Michael Matson - Wells Fargo Securities, LLC

I guess, my first question would just be on Japan. Can you comment on the process you're making there with the launch, the reception you're getting from customers? And then, can you comment on the reimbursement level, where that's at relative to the U.S.? Is that significantly higher than the U.S. or is it in line?

Cathy Burzik

It's a great question, Mike, and I was in Japan last week and I can tell you that there is a large amount of excitement that our customers feel, and that we feel about the opportunity in Japan. We are on track, relative to our investments, in building our sales team and our sales organization over there. We are continuing -- and Lynne Sly is heading that organization over there now, and we are continuing to attract what I think, is some high-quality people into our sales organization, in terms of account executives and clinical support. So we remain optimistic on our opportunity in Japan. I can tell you, I had dinner with many surgeons, customers that have already been utilizing V.A.C., and so I heard frist-hand some of the results. And they're using it on all different kinds of wounds in the hospitals, chronic wounds, diabetic foot ulcers, some acute traumatic wounds. So it's a good blend of patients now that are under V.A.C. Therapy in Japan. Reimbursement is complex in the Japanese environment. As I think you know, you get reimbursed from the equipment, separate from the technical fee from the material fee, if you will. But that said, we did enable a reimbursement environment here, achieved a reimbursement environment that was consistent with what our expectations are. And I would just, as a proxy, kind of all-in, think about that something in the tune of like $100 a day for the rental unit and the dressing. Now obviously, there's a 21-day reimbursement also, with a possible extension of another week beyond that. So we definitely came in at the reimbursement level that we were expecting.

Michael Matson - Wells Fargo Securities, LLC

And then just with regard to the new V.A.C. VIA product, can you just comment on your strategy, in terms of how you're going to sell that folks to your existing V.A.C. products? And it sounded like, based on the comments in the script, that you expect that to actually cannibalize your core business? So I assume that there's some kind of margin benefit there, or there's going to be some kind of positive trade off from doing that.

Cathy Burzik

I'm going to say a couple of things, Michael. We're really excited about our VIA products and about this new pump technology. And VIA is the first product in a whole series of products that is going to be based on this pump technology. The very first, VIA, we believe, could be utilized in about a third of the wounds that would be in an acute-care setting in the U.S. and even more of wounds in post acute, outside the U.S. We think, it will help us with our home environment there. And I would just remind you, Mike, that this opportunity remains highly under-penetrated. And because of the complexity of the rental model, we know that there are wounds that people would not use a rented V.A.C. or other NPWT systems for today. Remember that we only serve like 5% of all of the wounds with Negative Pressure Wound Therapy, so $6 billion market opportunity. So we see VIA not just cannibalizing, but also expanding.

Michael Genau

Mike, what I would add to Cathy there is the innovation this technology affords two really important clinical and customer advantages. Well, number one, it's silent. And so the way the technology has been developed will help with the overall satisfaction level as it administers therapy. And the second is, it's ambulatory. So the best way to get patient on the road to recovery is to get them ambulating, and this technology does allow that. So they're not fettered to the wall. So we see that the game changer in how we transition patients out of the hospital and ultimately, to the home as well.

Operator

Your next question comes from the line of Jayson Bedford. [Raymond James & Associates]

Jayson Bedford - Raymond James & Associates

Just on the U.S. home care market and the lower unit volumes. What are the metrics you're looking at for an improvement? Is it just unemployment or is there other factors there that could kind of spur some growth? And then the mix shift, meaning more acute wounds being treated outside of the hospital, is that kind of a trend, you think, will continue?

Cathy Burzik

We have started this post acute situation deeply during the quarter. At the highest level, I believe that the biggest impact is from the economy. And it really is a function of the high levels of unemployment that remain within the United States. So the downstream effect of that is people either without insurance, people running out of insurance, people running out of COBRA, wounds that, ideally, would be treated by Negative Pressure Wound Therapy, but the patient just can't afford the therapy. So then you see also more Medicaid or people doing without. The other factor in here, which, as we study, this is interesting, we've done really well now in transitioning patients from the hospital into the homecare settings. So as a result of the fewer chronic wounds in the homecare setting and more of the transition phases and more patients, quite honestly, going to ambulatory surgical centers, you wind up with more of these kind of surgical wounds in the homecare environment and the length of therapy for those kind of wounds is less than our standard longer length of therapy for the homecare environment. So the upside of all that is we did see lower length of therapy. And then we also saw lower price realization, because of this overall mix of payers and then the mix of the length of therapy.

Jayson Bedford - Raymond James & Associates

And just as a follow-up to that, just from patient behavior, are you seeing them use lower-priced NPWT products? Or are they just going without the technology?

Michael Genau

With the shift in the mix as Cathy refers to -- Jayson, this is Mike Genau, we are seeing more advanced wound-care products used, as the length of therapy shortens. So that's true. You are seeing some different technologies used.

Cathy Burzik

And to your question, so what are we doing about this? Obviously, we started to get the data of that. Mike got a number of plans underway, that I think, you're going to see rolled out during this quarter. Take all of the area here, I mean, in the coming quarters. And it's getting closer to the patients, helping us, helping the homecare clinics and the wound-care clinics do their job better, that's paper-intensive environment. You got to measure the wound, you've got to do a lot of things, and we are very determined here and have redoubled our efforts to absolutely make sure that we can do everything we can to help those customers get the V.A.C. on the patients.

Michael Genau

So one example of that would be the agreement we recently announced with Net Health toward the post-acute space. Net Health represents a number of wound-care clinics, and it helps with the automation of documentation and billing. So it will streamline the process, taking the pressure off of the administrative caregiver, making it easier for them to submit the documentation. We see that as a real positive step, as we look at ways to help the post-acute space.

Cathy Burzik

And I mean, obviously, we continue to sell all the economic benefits of V.A.C. Therapy through this whole process here. So we continue to see that obviously, as the value offer to the customer.

Operator

Your next question comes from the line of Greg Brash. [Sidoti & Company]

Gregory Brash - Sidoti & Company, LLC

Just a thing to the Regenerative Medicine business, put up a strong number there. Some of your competitors, albeit that they're at a much lower base, have claimed that they are gaining share. It seems unlikely based on the number you put up. Could you comment on what you're seeing in the marketplace, in the hernia and breast reconstruction side? And was there a meaningful contribution from some of the new markets and applications you've entered?

Cathy Burzik

Yes, Greg. I'm really proud of how well we're doing with the LifeCell business and how well Lisa and her team are doing. And we worked so hard to get the inventory levels back to where they need to be, particularly in Strattice, and now we're still working on AlloDerm. But you see the benefit of that, once our sales people had the inventory, they could consign it, they could open new account. So it really is playing out, as we had anticipated that it would. Regarding the competition, it's like all markets. We've created a great market here. There's no doubt that you see more conversion from statics to biologics across the board, particularly in this challenging hernia repair and breast applications. So you will continue to see the growth in Biologics. And with that, certainly, there are other competitors coming on the market, and that's kind of the sign of a healthy growing business. I don't believe that LifeCell is losing shares to those competitors. I think, the market is expanding, and I think, when you see year-over-year growth of 79% of Strattice, I mean, that's a very awesome growth number year-over-year.

Gregory Brash - Sidoti & Company, LLC

Just shifting to the V.A.C. side, do you see -- some of the trends you saw here in the first quarter, do you see that reversing? You're maintaining your guidance, do you see that reversing through some of the initiatives that you instilled, or is it more a function of you accept more of a meaningful contribution from some of these new products in markets like Japan?

Cathy Burzik

Yes. So as I said in my comment, I think, that as long as we have this unemployment situation and economic kind of headwind overhang, it's hard to predict an improvement in the post-acute environment. As I said, Mike is doing a number of things to try to drive demand, but there's just a lot of headwind in that overall environment. On the upside, we are pleased with where we are with Japan, pleased with where we are with the new products. And so, you've got a situation here where those revenues will compensate for, what we believe, the shortfall in the post-acute. And then you've also got a relatively stable hospital acute environment, as patients get released from that into the home environment.

Operator

Your next question comes from the line of Paul Choi. [Caris & Company]

Paul Choi - Caris & Company

First question is for you, Cathy or Mike as well, just on the U.S. AHS market. With the unemployment situation, as you described it, Cathy, beyond sort of pricing in the near term, do you see any other challenges out there affecting the broader adoption of Negative Pressure Wound Therapy in that particular post-acute market? So the question, I guess, basically, is it systemic to all the NPWT products out there, given the general economic environment?

Michael Genau

Paul, I think, it's a great question. When you look at the post-acute landscape, when you look at the number of covered lives, for example, in the managed-care sector with enrollment being down, and we've seen some data that says in wound-care clinics, the number of wounds treated being down year-over-year. Meaning, they're either not getting treatment, because they can't afford it, or they're using alternative forms of therapy. And then you couple that with the reduction in the overall length of therapy. The environment remains, one, that's a little bit complex, and we feel good about the initiatives we're taking. But as it pertains to what happens in the quarter, we think, that if we stick to our plan, we'll continue to execute. I think, competition is another area that you have to factor in there, more entrance of just the SAWC Conference a week ago in Orlando. And we saw more entrance in NPWT than we've seen before. So when you look at our position, what we're trying to do, some of the delays in news products tied to the FDA environment certainly, doesn't help us either.

Paul Choi - Caris & Company

And then turning to LifeCell, you guys posted a very strong number here relative to our thinking. I guess, two questions on that. First, was there any selling of perhaps some latent Strattice demands, given your recent supply issues being resolved there? And secondly, just on the guidance for double digits, that's a bit of a change from what you guys have said in the previous quarter for mid teens. Can you put maybe a little more granularity on how you see it ramping? I think, you guys said, you saw Strattice ramping to the 140 range.

Cathy Burzik

To kind of address where we are with the overall Strattice business, I don't think, that this is a situation where these are one-off things. We have truly opened new business. We have also, with our current customers, been able to go in and sell the new Filma [ph] application, Lisa and the team [indiscernible] has also been very successful in expanding the Head and Neck business. We put a specialty sales force in for that and I'm really pleased with what our European EMEA team is doing. We had $1 million in the quarter. We're on a strong run rate there. So I think, we entered the second quarter, with a lot of confidence here now and locking the AlloDerm inventory build at LifeCell. So I think, Marty would be fair to say, we look to more a high double-digit growth for LifeCell.

Martin Landon

Yes. I think, Paul, where we've had inventory, where we're putting inventory, we've seen good solid demand. Quite frankly, I think, people were a little reluctant to open new accounts if they didn't have the studies required with inventory. As that kind of abates, they're opening up new accounts and the demand there is good. So I think, while it is a competitive environment, I think, the product performs best in class, and so the expectation amongst the team is that, in terms of their internal plans and expectations, they feel pretty good about it.

Operator

Your next question comes from the line of Matt Miksic. [Piper Jaffray]

Matthew Miksic - Piper Jaffray Companies

One question on Japan and Europe and the so many investments you're making there in distribution and sort of the launches. I'm wondering if you could give us a sense of when those start to have break even? I understand maybe it's a back-end loaded sort of top-line growth in Japan, for example, or in the back half of the year. Are there any color around sort of break even with the business that you've made, Marty?

Martin Landon

So on the Japan side of things, I think, it's safe to say, we're pleased with the start we've made. But certainly, the investments to this point are going to continue to outrun the revenue in the short-term. I think, as we look towards the back half of the year, you're approaching break even and certainly into the early part of 2011. You're getting to a break-even standpoint, if we continue with how we see things today. But net-net for the year, that's a net investment on the Japanese side and that's where we've seen it at the entire year. On the European side, again early on, we've made investments, but we're starting to see some traction. We've had good traction on the LifeCell EMEA side, in the U.K. Starting to build some successes in Germany, just exactly when that turns net positive, again, that's going to be back half of the year or latest, early part of 2011.

Matthew Miksic - Piper Jaffray Companies

And then just a follow-up on AHS and the clinical side. You mentioned some of the clinical trials that you're running that support Strattice. I'm wondering, if you could talk about anything you're doing clinically on the AHS, either related to some of the new products or existing indications, either in support of Provena or in support of some of the other new products? Or just again, existing indications that kind of support adoption and penetration?

Michael Genau

So Matt, we've got the ABThera trial going on right now, which we're pleased with the progress. It's a 20-account trial. We've got around 40 patients active right now, that's one that's most relevant. And clearly, as we continue to work with the FDA, on our submissions for Provena, we have the clinical information that they've requested, as part of our submission.

Matthew Miksic - Piper Jaffray Companies

Anything that will be sort of post marketing or is there something that you can sort of put into a paper to support the adoption?

Michael Genau

Well, clearly, we will on the ABThera side. Are you referring to Provena? Was that question on Provena?

Matthew Miksic - Piper Jaffray Companies

Yes, Provena. And again, just in general, it seems like the demand for clinical data across the board, even for things that have been on the market for quite some time.

Michael Genau

So the industry, we have 22 RCTs and hundreds of journals out there [ph]. So that's core to the KCI business, and we'll continue with that. We're also working on registries, as a way to have a broader data set. So yes, the clinical trial activity will continue, both in the U.S. and in Europe.

Cathy Burzik

And I would just want to remind you also, Matt, that you saw some recent documentation that came out of the FDA, relative to home use of products. And for us to -- we're the only NPWT company that is able to label our products that's safe for use in the home. That's an approved indication and to get that indication from the FDA took a tremendous amount of clinical. I mean, tens of thousands of patients, we had to provide the data to the FDA, in order to get that approval. So that [indiscernible] evidence is the kind of clinical evidence that I think, KCI is going to continue to generate. And I think, that's going to help really further this whole FDA initiative.

Operator

And we have time for one more question. You have a question from the line of Dave Turkaly. [Susquehanna Financial Group]

Shawn Bevec - Susquehanna Financial Group

It's actually Shawn Bevec in for Dave. I wanted to ask Provena launch in Europe and Canada. I was just wondering how that was going? And if you guys have gotten any questions back from the FDA, regarding your submission for that product?

Cathy Burzik

I would just say that, I'll let Mike talk about the situation with EMEA and Canada, which we're pleased about. But we are in active dialogue with the FDA here. The FDA really -- and I commend the FDA for this, I mean, they really are taking a hard look at these 510(k) products, trying to make sure that they're doing the right thing. We have confidence that we're going to get through the discussion with them. So we're down to a few questions now. So we're hoping that by the middle of this year, that we'll be on the market in the U.S. with for Provena. Clearly took longer than we had anticipated, but I'm also pleased that we've been able to get the product launched externally.

Michael Genau

In the case of how it's going, we just launched, as you know, in Q1, so it's still very early. The feedback that we received both in Europe and in Canada has been extremely positive. The results that clinicians are getting on their patients is meeting or exceeding their expectations. And so we remain confident that as we ramp of, we'll continue to see that progress. And we are continuing to roll out Provena in all the international markets, as well as we await FDA approval for the U.S.

Operator

And that concludes our Q&A session. Are there any closing remarks?

Cathy Burzik

No. I would just like to thank everybody for joining the call. And I hope you all have a wonderful day. Thanks.

Operator

Thank you for your participation. This concludes today's First Quarter 2010 Earnings Call. You may now disconnect.

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